The mortgage world can be confusing, and it pays to educate yourself about the pros and cons of different types of mortgages.
Fixed-rate mortgages offer rate and payment security, although they can be costlier than adjustable-rate mortgages (ARMs). So, while the low initial cost of ARMs may be tempting to home buyers, they do carry a degree of uncertainty. Consider the following:
- A 30-year, fixed-rate mortgage is a stable fixed-interest-rate home loan. This is a good choice for borrowers who plan to remain in their homes a long time and want the security of knowing their monthly payment will never change.
- A 15-year, fixed-rate mortgage typically has a lower interest rate than the 30-year fixed. Borrowers pay off the loan more quickly, and they also build equity faster. This appeals to buyers of less expensive homes and those looking to refinance without extending the loan out another 30 years.
- An ARM adjusts periodically after a specified time (typically one year or five years) based on a mortgage index, such as Libor. If rates go down, payments are reduced, but if rates increase, payments increase. An ARM can be a good deal if you do not plan to remain in your home for long, providing you have the financial flexibility to cover higher payments if rates increase.
Other types of mortgages include interest-only mortgages, balloon mortgages (which have a low rate for a period of time before the loan balance comes due), and assumable mortgages, which can be transferred from a homeowner to a buyer, so a new mortgage isn’t required. This can be a selling feature.
You’ll want to choose a loan that minimizes your total cost (based on interest rate and upfront fees) over the time you expect to own the home, assuming the payment is affordable and you are comfortable with the risk you’re taking on.