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Fixed Rate and Adjustable Mortgages

When shopping for a mortgage loan you naturally want to make sure you make the best decision possible. If you are a first time home buyer; however, how do you know which mortgage option is right for you. What is the difference between fixed rate mortgage loans and adjustable mortgage loans? Which one offers the best benefits and most importantly, which one will save you the most money over the life of your mortgage loan?

First, it is important to understand that adjustable rate mortgages, often known as ARMs, and fixed rate mortgages both have their advantages and disadvantages. Which type of mortgage is right for you may well depend on your situation and your preferences.

A fixed rate mortgage is by far the most traditional type of mortgage financing. This type of mortgage is a direct reduction loan with payments fully amortized. This means that the payments will remain constant over the life of the loan with no changes. You will pay the exact same amount every month for every month you have that mortgage. Most fixed rate mortgages last for 30 years although other options including, 25, 20 and 15 years are also possible. Payments are usually made monthly although they could also be made on a quarterly or even semi-annual basis.

With this type of mortgage a credit is made first to the interest that is owed on the loan from the payment you make every month. Anything that is left over from that amount is applied directly to the balance of the loan. So, while the payment amount will remain the same, over the life of the mortgage the amount you pay toward the interest on the loan every month will decrease while principal payments will increase. At the end of the loan the balance will be zero.

This type of loan offers numerous advantages including the fact that it is easier for the homeowner to budget their monthly payments and there are no surprises in store. Of course, the disadvantage is that while the monthly payment will stay the same so will the interest rate. You won’t be able to take advantage of dropping interest rates unless you refinance later on down the road.

Adjustable interest rates have increased in popularity in the last few years because they provide a way to take advantage of interest rates as they decrease. The important point to keep in mind with this type of mortgage; however, is that your interest rate is subject to fluctuate from time to time over the life of the loan. This means that your monthly payment can change as well. If interest rates go down, so will your monthly payment, but if they go up you can expect a hike in your mortgage payment as well. If you are the type of person who needs to be able to precisely budget your bills every month and the thought of a surprise concerns you, this may not be the best type of mortgage loan for you. You should know; however, that regulations are in place to make sure that you do not suffer from undue fluctuations. Most commonly, a lender can only adjust the interest rate once or twice per year and that rate can only be adjusted by a certain percent over the life of the loan. In this way, a cap is in place to protect you. For example, if you took out a mortgage loan with a current interest rate of 5% and there is a 4% cap, your interest rate on your mortgage could dip as low as 1% but no higher than 9%.
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