What is the difference between a Fixed-Rate and Adjustable-Rate Mortgage (ARM)?

by Adrian J. Elliott | Saturday, Nov 30, 2019 | 30 views

When it’s time to shop for a mortgage, there’s a lot to consider. You need to research different loan options, hire an expert mortgage broker, and find a reliable lender. While performing all these crucial tasks, you need to answer one big question- whether to get a fixed- or an adjustable-rate mortgage (ARM). Are you wondering what these terms are and why does it matter?

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If you’re looking to get a mortgage, there are many loan features to consider. And one such important consideration is choosing between a fixed-rate or adjustable-rate mortgage. As you know, the fee charged for borrowing money is known as interest. This rate of interest depends on the type of loan program you choose and your credit score. The loan programs offered by mortgage lenders are basically of two types- fixed-rate mortgages and adjustable-rate mortgages (ARMs). The major difference between these two types of mortgages is how interest rate works. So, if you want to select the best mortgage option for your current needs and future goals, you need to first understand ARM and a fixed-rate mortgage.

Fixed-Rate Mortgages

A fixed-rate mortgage charges a fixed rate of interest that does not change throughout the life of the loan. Irrespective of what happens in the economy, your monthly mortgage interest rate will remain the same. This type of loan is popular because it gives a sense of security and makes budgeting easy for homeowners. So, the main benefit of getting a fixed-rate loan is getting protection from sudden and potentially higher interest rates. This type of mortgage will not increase your monthly mortgage payments suddenly if interest rates rise. Moreover, understanding how fixed-rate loan work is quite simple.

However, there are also some drawbacks of this type of loan. In case, interest rates go down, you can’t take benefit of that. Refinancing a fixed-rate mortgage can be difficult if and when rates decrease. Also, when interest rates are high, qualifying for a loan is more difficult because the payments become higher.

Adjustable-Rate Mortgage (ARM)

An adjustable-rate mortgage, or ARM, is a type of loan where the rate of interest adjusts overtime. This type of loan begins with a fixed interest rate for a specific period. Once your introductory fixed-rate period expires, the interest rate adjusts according to the market condition. This type of loan is lucrative in the beginning because borrowers get a lower starting monthly payment. However, when that introductory fixed-rate period ends, the loan’s interest rate will adjust and your monthly payments may increase significantly. This mortgage is also known as a negative amortization loan.

There are some advantages of ARMs also. It’s a good option for short-term borrowing needs. If you’re a first-time home buyer and need a lower initial rate for qualifying the loan, you may consider an ARM. Also, if interest rates go down, you won’t need to refinance.

 

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