As a homebuyer, you’ll be faced with a lot of options. Open floor plan versus more defined living spaces; single story versus two story; recent build or older home?
Those are just some of the options you will decide on. In addition to the home features, you will also have a say in the type of financing program. Two major distinctions in home lending will be adjustable rate versus fixed rate.
Here’s some information on both types of rates that can help you decide which one is right for you and your goals of financing a home of your dreams.
Advantage: Fixed-rate loan
Right off the bat, you’ll notice that a key feature of this loan is a fixed rate. The advantage is consistency and predictability.
Each time you pay the mortgage bill, you will experience a constant and unchanging interest rate, regardless of outside factors such as market changes to overall interest rates.
Advantage: Adjustable-rate loan
Unlike their fixed-rate counterpart, an adjustable-rate program will change over time. As a tradeoff to the fluctuating interest rate, borrowers who choose an adjustable rate will typically enjoy a lower introductory rate on their mortgage loan. As a result, the payment and financing costs will be lower than other loan options.
A 5/1 adjustable-rate mortgage is among the most common. Under this format, homeowners will pay a fixed rate for the first five years. Afterward, the rate can adjust yearly until the loan is paid off. The adjustments will be based on a financial index. And yes, there will be some limits on how much it can increase.
This program is ideal for homeowners who are not going to stay put for the long haul.
When the adjustable rate resets, it’s possible to get a lower rate without having to apply for a refinance mortgage.
Disadvantage: Fixed-rate loan
Since borrowers can count on a consistent rate for the life of the loan, it also means they will miss out on a lower rate during various stages of the loan.
While temporary, a lower introductory rate that’s built-in to adjustable-rate loans offers homeowners some relief on their monthly mortgage bill.
And when interest rates go down, the fixed rate will not automatically follow. If homeowners want to take advantage of a new lower rate, they will have to apply for a refinance mortgage program.
Disadvantage: Adjustable-rate loan
After the introductory rate, the interest rate on the loan can increase once the rate resets.
For homeowners taking the long view, this means that the monthly cost of homeownership will rise over time. That’s why it’s important to fully understand how an adjustable-rate mortgage works and how it can benefit homeowners in the short term.