Differences between fixed and adjustable loans

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With a fixed-rate loan, your payment doesn't change for the entire duration of the loan. The longer you pay, the more of your payment goes toward principal. Your property taxes may go up (or rarely, down), and your insurance rates might vary as well. But generally payment amounts on a fixed-rate mortgage will be very stable.

Your first few years of payments on a fixed-rate loan are applied primarily toward interest. That reverses as the loan ages.

You might choose a fixed-rate loan to lock in a low interest rate. People select fixed-rate loans when interest rates are low and they want to lock in at this low rate. If you have an Adjustable Rate Mortgage (ARM) now, refinancing into a fixed-rate loan can offer greater stability in monthly payments. If you have an Adjustable Rate Mortgage (ARM) now, we can assist you in locking a fixed-rate at a favorable rate. 

Adjustable Rate Mortgages — ARMs, as we called them above — come in a great number of varieties. Generally, the interest rates on ARMs are determined by an outside index. A few of these are: the 6-month CD rate, the 1 year Treasury Security rate, the Federal Home Loan Bank's 11th District Cost of Funds Index (COFI), or others.

Most programs feature a "cap" that protects you from sudden monthly payment increases. Some ARMs won't adjust more than 2% per year, regardless of the underlying interest rate. Sometimes an ARM has a "payment cap" that guarantees your payment can't go above a fixed amount over the course of a given year. In addition, the great majority of ARM programs feature a "lifetime cap" — the interest rate can't ever go over the cap amount.

ARMs usually start out at a very low rate that usually increases over time. You may hear people talking about "3/1 ARMs" or "5/1 ARMs". In these loans, the initial rate is fixed for three or five years. It then adjusts every year. These kinds of loans are fixed for 3 or 5 years, then adjust after the initial period. These loans are often best for borrowers who anticipate moving within three or five years. These types of adjustable rate programs most benefit people who plan to move before the loan adjusts.

Most borrowers who choose ARMs choose them when they want to get lower introductory rates and don't plan to remain in the home longer than the introductory low-rate period. ARMs can be risky in a down market because homeowners could be stuck with rates that go up if they can't sell or refinance with a lower property value.

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