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Mortgage Guide

How to get a home loan

Fixed-rate and adjustable-rate mortgages: Finding the best deal on your loan


Interest rates have huge impact on your monthly payment and overall mortgage. Just like with loan terms, interest rates have 2 types: Fixed and Adjustable. When deciding, you have to think about your financial behavior. Do you stick to a routine or are you more flexible when it comes to your finances?

Fixed rates are for people who want stability and dislike surprises when it comes to money matters. On the other hand, adjustable rates are more suitable to borrowers who are prepared to take risks, alongside possible opportunities. To understand the differences better, let’s compare them:

 

FIXED RATE

ADJUSTABLE RATE

Risk level

Lower risk; predictable

Higher risk; unpredictable

Interest rate

Higher interest rate

Lower initial interest rate

Rate change

Rate does not change over the duration of the loan

After the initial period expires, rate can increase or decrease during the loan’s life cycle

Principal and interest payment*

Principal and interest payment remain the same all throughout the loan

Principal and interest payment may increase or decrease during the entire loan term

* While the principal and interest payment do not change, the total monthly mortgage can still increase or decrease based on the changes in real property tax, in homeowner’s insurance, and in private mortgage insurance.

Fixed Rate: for the borrower who finds peace in the predictable

PROS

  • A fixed interest has the same interest rate all throughout the duration of the loan. This means the principal and interest payment also remain constant.
  • The sense of predictability make budgeting easier. More or less, you know how much to save for your monthly mortgage.
  • A fixed interest rate is easy to understand. Its simple mechanics help first-time buyers make sense of the loan.

CONS

  • A fixed type also has higher interest rates. Before choosing this option, ask yourself, “Can your budget handle a high-interest monthly payment?”
  • A fixed rate makes it difficult for you to take advantage of falling rates. Your only option is to refinance which will incur additional cost, time, and effort submitting requirements and signing documents.
  • Unlike the adjustable rate, fixed rates offer few options, limiting your choice. This makes shopping for loan more difficult because every lender gives identical offers. There is no “better deal” to speak of.

Adjustable Rate: for the borrower who thrives at a certain level of risk

PROS

  • The adjustable rate has low initial interest. This rate type has two periods: fixed and adjustable. During the fixed period, your interest rate will be lower than a fixed rate. But after the fixed period, rates can increase based on market conditions.
  • You can take advantage when rates fall. If it does, you can expect your principal and interest payment to follow suit.
  • An adjustable rate can also be strategic for borrowers who plan to stay at their house for only a few years, then resell the property. You can take advantage of the low interest rate during the fixed period and not absorb the possible rate increase after.
  • An adjustable rate has many variations that might match your individual needs or preferences. As we discussed earlier, there are two periods in an adjustable rate:

Fixed_v_adjustable.png

Common fixed periods: 3, 5, 7, & 10

Common adjustable periods: 1, 3, & 5

Lenders offer varied combination of fixed and adjustable periods.

CONS

  • When rates increase, your principal and interest payment will also increase. The increase can be minimal or it can be double the original rate. Before choosing the adjustable rate, carefully check if you can afford your mortgage if rates balloons.

Pro tip: You will receive a notice from your lender to advise you of the interest change.

  • An adjustable rate can be complicated. With the different terms and choices, it is easy for any buyer, especially first time homebuyers to get confused.
  • An adjustable rate has certain risk features. For example:
  • Some adjustable rate offers adjust more frequently than others.
  • Some have floor rates where interest rates are allowed to increase but do not adjust decreases below the floor rate.
  • Others increase your loan balance when your monthly payment is not enough to cover the rate increase.

When considering getting an adjustable rates, we recommend to do the following:

  • Read the rules and the fine print
  • Ask when and how often the rates will adjust
  • Ask for the rate cap or the maximum amount interest rates can change
  • Ask if the offer has a floor rate.

Check which rate type is best aligned with your financial behavior, your budget, and your goals. Explore your options carefully; read your loan estimates and compare them.

Do you want to know more about which rate type may work for your? Call us at (855) 610-1112 or email us and we will walk you through the differences.

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