There are a lot of choices to make before you settle on the perfect home. When you’re ready to buy, you’ll have a whole new set of mortgage decisions to make including whether you want a fixed- or adjustable-rate mortgage (ARM). To choose the one that’s best for you, you need to know how mortgages work.
A fixed-rate mortgage allows you to lock in a fixed interest rate for a fixed period of time or term. For example, if you choose a 30-year, fixed-rate mortgage, your interest rate will remain the same for 30 years — no matter what the current rates are during that 30 years. This gives you the benefit of fixed monthly principal and interest payments that can make budgeting easier.
When rates are higher, you’ll be protected from having your mortgage payment increase. However, when rates are lower, you will only be able to lower your rate by refinancing your mortgage.
In contrast, with an ARM, you will lock in a fixed rate only for an initial period, usually, 3, 5 or 7 years. After that period, your mortgage rate may adjust each year depending on the adjustment period. For example, if you chose a 7/1 ARM, your rate will be fixed for seven years. After that initial period, your rate could adjust upwards or downwards each year, depending on the current rate during the adjustment period. The benefit of ARMs is that you will pay a lower rate of interest during the initial period.
If interest rates are lower during the adjustment period of your ARM, your mortgage payments will be automatically lowered. However, if interest rates are higher, your rate
and your payment will increase, making ARM loans riskier than fixed-rate mortgages.
So, with such different features and benefits, how do you know which one is right for you? Ask yourself these questions.
- How long do you plan to live in the home? If you plan to stay in your home for a long time, a fixed-rate mortgage might be a better choice. You won’t have to worry about rising rates. If, however, you plan to stay in your home for just a few years, you may want to choose an ARM, which would allow you to get a lower rate in the early years and sell the home before the adjustment period.
- What’s happening with rates? If rates are higher when you apply, you may believe an ARM will be a better choice due to the start rate being lower. Consider carefully when choosing an ARM loan in a rising rate environment. This can mean a higher future payment you must be prepared to pay.
If you don’t know what option to choose, let one of our expert mortgage loan officers help you decide what’s best for you depending on your preferences and comfort level.