Fixed-Rate Mortgage vs. Adjustable Rate Mortgage: Which Is Best?
When it comes to home buying, one of the biggest decisions you’ll have to make is what type of mortgage to get. Two of the most popular options available to borrowers are fixed-rate and adjustable-rate mortgages, and understanding the differences between the two can help you decide which type of mortgage is best for your situation.
What Is a Fixed-Rate Mortgage?
A fixed-rate mortgage is a home loan that comes with an interest rate that does not change over the life of the loan, typically 15 or 30 years. This type of mortgage offers homeowners stability and predictability over the life of the loan. The two most common types of fixed-rate mortgages are the conventional 15-year and 30-year loans.
Advantages of Fixed-Rate Mortgages
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Low cost: Generally, fixed-rate mortgages are lower in cost than adjustable-rate mortgages. This is because they are long-term loan products, so lenders charge lower interest rates since they will be receiving payments for a longer period of time.
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Lower risk: With a fixed-rate mortgage, you can be sure that your payments will be the same each month. This makes it easier to budget and plan for the future because you know exactly what your mortgage payments will be in the years to come.
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Easier to qualify: Since they are lower risk loans, fixed-rate mortgages are easier to qualify for than adjustable-rate mortgages, so they are attractive to those looking for more flexibility and stability.
Disadvantages of Fixed-Rate Mortgages
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Not ideal for short-term: As fixed-rate mortgages are long-term loan products, they are not ideal for those planning on staying in their homes for a short period of time. While the lower interest rates can be beneficial for those reasons in it for the long haul, those who plan to stay in their homes for five years or less may not reap the benefits of a fixed-rate mortgage.
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Limited availability of short-term fixed-rate mortgages: While longer-term fixed-rate mortgages are widely available, there is typically not a wide variety of options when it comes to shorter-term mortgages with fixed interest rates.
What Is an Adjustable-Rate Mortgage?
An adjustable-rate mortgage, or ARM, is a type of mortgage that allows the interest rate on the loan to fluctuate, typically over the life of the loan. ARM loans are often attractive to those who plan to stay in their homes for five years or less, as the initial interest rate, or “teaser rate”, is often much lower than with a fixed-rate mortgage.
Advantages of Adjustable-Rate Mortgages
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Lower teaser rate: As mentioned above, adjustable rate mortgages typically come with a much lower initial interest rate than fixed-rate mortgages. This can help those who plan to stay in the home for a short period of time because their payments are low, but once the introductory period ends they may not necessarily get to enjoy the lower interest rate.
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Flexibility: Another advantage of adjustable-rate mortgages is the flexibility they offer borrowers. Unlike fixed-rate mortgages, adjustable-rate mortgages have interest rates that can adjust, so those who plan to stay in their homes for a few years and then move are not locked in to a fixed-rate mortgage for 30 years.
Disadvantages of Adjustable-Rate Mortgages
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Risk: With an adjustable-rate mortgage, interest rates can change, so it’s more difficult to predict what your payments may be when the loan resets. If rates increase, your payments will increase, too.
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Can be more difficult to qualify: Since adjustable-rate mortgages can come with lower initial interest rates and may be more volatile, they can be more difficult to qualify for. Borrowers generally need to have good credit, a low debt-to-income ratio, and a larger down payment in order to qualify for an ARM.
Choosing the right mortgage is a big decision and is based on factors such as how long you plan to stay in the home, your budget, and your financial goals. Fixed-rate mortgages can be the right choice for those looking for the stability of a fixed interest rate and lower costs. However, those with shorter-term plans may benefit from the adjustable-rate mortgages, which come with a lower initial interest rate and more flexibility. It’s important to understand the pros and cons of each type of mortgage and decide which one is best for you.
