What's the Best Option: Fixed Rate Mortgage or ARM?
If you’ve never shopped for a mortgage before, you might find the information and options overwhelming. You’ve got conventional fixed rate mortgages for various terms, government-backed or guaranteed mortgages like FHA, VA and USDA loans and adjustable rate mortgages, or ARMs, for various terms and lengths. What’s the best option for you? In order to determine what your best mortgage option is, you’ll want to compare the types of mortgages.
What is a fixed rate mortgage?
A fixed rate mortgage, which is also often called a “conventional mortgage”, is what you most likely think about when you think about mortgages: you pay a fixed interest rate for the term of the mortgage loan, which is usually 15 or 30 years, although some lenders also offer 20 year terms. Because interest rates are so low right now, getting into a locked, low rate for a set period of time is an attractive option to many buyers, and a fixed rate mortgage gives you some stability for the future, as you’ll know approximately what your mortgage payment will be each month for the lifetime of your loan (allowing, of course, for some adjustments due to fluctuating property tax rates, cost of homeowners insurance, etc.)
What is an ARM?
An adjustable rate mortgage (or, ARM) is pretty much what it sounds like: a mortgage loan where the interest rate you pay will adjust, or fluctuate, over the term of the loan. ARMs do not raise interest rates arbitrarily – the interest rate will adjust at specific, known internals over the life of the loan, generally at 5 or even 7 or 10 years. So, you’ll get the initial low interest rate for a set period of time, like 5, 7 or 10 years, and then your interest rate will adjust, generally yearly, after that. If you are likely to experience a large promotion at your job in the next several years, or come into a large sum of money or have other financial changes in the coming years, an ARM can be a great way to get a lower interest rate up front and build equity quickly.
What are the benefits of one over the other?
Both fixed rate mortgages and ARMs come with their own pros and cons, and it’s important to weigh all your options before committing to one loan type over the other. Your home is likely one of the largest, if not the largest, purchases you’ll make in your lifetime, and small differences in interest rates or repayment terms can dramatically change the total amount you will repay to your mortgage lender. A fixed rate mortgage gives many buyers the long-term stability they are looking for, while ARMs generally have lower interest rates, though for shorter terms. Depending on your unique financial situation, one option may save you more money over the long term. To help determine which option is right for you, call you lender and ask about your options – you might find you have more options than you think you do!