Should I Get a Fixed- or Adjustable-Rate Mortgage?
You've been dreaming of owning a home for years, and now you're finally ready to make the leap. You've found the perfect place and may have even started deciding where to put the furniture, but you still have one big obstacle standing in your way: getting a mortgage.
If you've never bought a home before, the whole process can seem a little confusing. One of the first things you have to figure out is whether you should get a fixed-rate or adjustable-rate mortgage. Most people choose the fixed-rate mortgage without even thinking about it, but there are situations where an adjustable-rate mortgage may be a better fit.
How fixed-rate mortgages work
Every mortgage charges interest in order to make the deal worth it for lenders. With fixed-rate mortgages, you lock in a single interest rate for the lifetime of your loan. Usually, the payment period is 30 years, but it can be 20 or 15 if you want to pay off your home more quickly.
The reason fixed-rate mortgages are so popular is that they're more predictable. You know exactly how much money to set aside out of your paycheck each month to cover the bill. Plus, if interest rates rise, you don't have to worry about your monthly mortgage payment rising accordingly.
The disadvantage is that if mortgage rates go down and you'd like to capitalize on this, you'll have to refinance -- and that means spending a few thousand dollars in closing costs. Fixed-rate mortgages also have higher starting interest rates than adjustable-rate mortgages, and that may limit how much home you're able to buy.
How adjustable-rate mortgages work
As the name implies, adjustable-rate mortgages (ARMs) have interest rates that change over the lifetime of the loan. Most ARMs these days are hybrids, which means they have an initial fixed-rated period, after which the interest rate begins to change, usually once per year. You may see this written as 5/1 or 7/1. This means that you get five or seven years of a fixed interest rate, and after that, the interest rate -- and your payments -- will be adjusted every year.