Adjustable Rate Mortgages
A mortgage is the biggest financial investment most of us make. Before you take out a mortgage, it’s a good idea to get familiar with all your options. One of the biggest differences between different types of mortgages is how the interest rate is charged.
There are both fixed rate and variable or adjustable rate mortgages. With a fixed rate mortgage your payment remains the same for the life of your loan. So, for example, if you take out a 30-year fixed rate mortgage the first payment will be the same amount as the last payment you make 30 years later. One of the biggest advantages is that you reduce the risk you take on.
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An adjustable or variable rate mortgage changes with some financial index usually it’s the prime rate. The prime rate is that rate that banks are charged for borrowing money. If the prime rate increases then the interest rate on your mortgage will increase. If the prime rate decreases your monthly payment will decrease. Because you’re taking on some risk, the rates are usually better than fixed-rate mortgages.
There are many different ways that variable rate mortgages can be structured. Sometimes lending institutions will have a very low introductory rate. This rate will hold for a fixed period of time and then after that the rate will float with the financial index that it’s tied to.
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Some loans are structured so that you pay only the interest on the loan for a fixed period of time. This can mean very low monthly payments initially and larger payments later. This can be a good way to get into a home when you’re pretty certain that your earning power will increase over time. It’s also a good way to get in over your head financially if you don’t fully understand the terms of the loan.
Any adjustable rate loan contract will spell out how and when the interest rate can change. You want to make sure that there is a cap on the maximum rate charged. Usually the rate is reevaluated periodically and when this happens is written into the contract. If there is an annual review that means that interest rates can rise and fall for an entire year before it will affect your payments.
It’s a safe bet that interest rates will rise over the next few years. The current rates are at historical lows. If you take out an adjustable rate mortgage, you will probably see higher, rather than lower payments over the life of the loan.
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