Differences between adjustable and fixed rate loans
A fixed-rate loan features a fixed payment amount over the life of the loan. The property tax and homeowners insurance which are almost always part of the payment will go up over time, but generally, payments on fixed rate loans change little over the life of the loan.
When you first take out a fixed-rate loan, the majority the payment goes toward interest. As you pay , more of your payment is applied to principal.
Borrowers can choose a fixed-rate loan in order to lock in a low interest rate. Borrowers choose fixed-rate loans when interest rates are low and they wish to lock in at the low rate. For homeowners who have an ARM now, refinancing into a fixed-rate loan can provide greater monthly payment stability. If you have an Adjustable Rate Mortgage (ARM) now, we can assist you in locking a fixed-rate at a good rate. Call Entrust Mortgage at 859-795-1846 to discuss your situation with one of our professionals.
There are many different types of Adjustable Rate Mortgages. Generally, the interest rates on ARMs are determined by an outside index. A few of these are: the 6-month Certificate of Deposit (CD) rate, the one-year Treasury Security rate, the Federal Home Loan Bank's 11th District Cost of Funds Index (COFI), or others.
Most programs feature a cap that protects borrowers from sudden increases in monthly payments. Your ARM may feature a cap on how much your interest rate can go up in one period. For example: no more than two percent per year, even though the index the rate is based on goes up by more than two percent. Your loan may have a "payment cap" that instead of capping the interest directly, caps the amount the monthly payment can go up in one period. Almost all ARMs also cap your interest rate over the duration of the loan.
ARMs usually start out at a very low rate that may increase as the loan ages. You've probably read about 5/1 or 3/1 ARMs. For these loans, the introductory rate is set for three or five years. It then adjusts every year. These types of loans are fixed for a number of years (3 or 5), then adjust after the initial period. These loans are often best for borrowers who anticipate moving within three or five years. These types of adjustable rate loans benefit borrowers who will move before the loan adjusts.
Most people who choose ARMs choose them when they want to take advantage of lower introductory rates and don't plan on remaining in the home for any longer than this initial low-rate period. ARMs can be risky when housing prices go down because homeowners could be stuck with increasing rates when they can't sell their home or refinance with a lower property value.