Differences between fixed and adjustable rate loans

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A fixed-rate loan features a fixed payment over the life of the mortgage. Your property taxes increase, or rarely, decrease, and so might the homeowner's insurance in your monthly payment. For the most part payments for a fixed-rate loan will increase very little.

When you first take out a fixed-rate loan, most of the payment is applied to interest. The amount paid toward principal increases up slowly every month.

You might choose a fixed-rate loan in order to lock in a low interest rate. People select fixed-rate loans because interest rates are low and they want to lock in this lower rate. For homeowners who have an ARM now, refinancing with a fixed-rate loan can provide more stability in monthly payments. If you currently have an Adjustable Rate Mortgage (ARM), we'd love to assist you in locking a fixed-rate at a favorable rate. Call First Residential Mortgage at (831) 459-6073 to learn more.

There are many kinds of Adjustable Rate Mortgages. Generally, interest for ARMs are based on an outside index. A few of these are: the 6-month Certificate of Deposit (CD) rate, the one-year rate on Treasure Securities, the Federal Home Loan Bank's 11th District Cost of Funds Index (COFI), or others.

Most ARM programs feature a "cap" that protects you from sudden monthly payment increases. Some ARMs can't increase more than two percent per year, regardless of the underlying interest rate. Your loan may feature a "payment cap" that instead of capping the interest rate directly, caps the amount the payment can increase in one period. Most ARMs also cap your rate over the duration of the loan.

ARMs usually start at a very low rate that usually increases as the loan ages. 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 types of loans are fixed for 3 or 5 years, then adjust. Loans like this are best for borrowers who expect to move in three or five years. These types of adjustable rate programs most benefit people who will sell their house or refinance before the loan adjusts.

You might choose an Adjustable Rate Mortgage to take advantage of a very low initial interest rate and plan on moving, refinancing or simply absorbing the higher rate after the introductory rate goes up. ARMs are risky if property values go down and borrowers are unable to sell or refinance.

Have questions about mortgage loans? Call us at (831) 459-6073. It's our job to answer these questions and many others, so we're happy to help!