How to Choose a Mortgage

Fixed-Rate Mortgages vs. Adjustable Rate Mortgages

A fixed-rate mortgage is a home loan whose interest rate does not change, in contrast to an Adjustable Rate Mortgage. Basically, there are just a few choices to make when it comes to the types of mortgages available.

One of the biggest choices you can make is whether or not your interest rate is fixed, or whether you want one that fluctuates with the interest rate each year. Which one you choose will depend on the condition of the market at the time of purchase. You will want to ask yourself:

Are mortgage interest rates at an all-time low?
Have you seen reports of the Federal Reserve Chairman raising interest rates soon?
Do you think you can feel comfortable with a fluctuating interest rate? Will it cause you more stress than the potential savings are worth?
How long do you plan on keeping the property you're buying?

These important questions are hard to answer without knowing a little bit about how fixed-rate and Adjustable Rate mortages work. Let's take a look at the basic pros and cons

Pros and Cons

	Pros	Cons
Fixed Rate	Lock in low rates Lock in low rates If rates rise, your rate stays low You always know what your payment will be, so budgeting is easier Long term financial goal planning is easier too, since payment is more stable over the length of the loan All in all, you lower your financial risk with fixed-rate mortgages	Slightly higher rates If rates plummet, your interest rate stays the same

Adjustable Rate	Lower initial interest rates during adjustment period Can sometimes qualify for a larger loan because of lower initial monthly payments during adjustment period If you plan to sell during adjustment period, you get the initial lower rates without the risk of fluctuating payments later on	Risk of the unknown...you never know when interest rates will rise and make your monthly payments higher If rates increase during your adjustment period, you could end up with much higher payments later on Long-term financial planning is trickier because you are never sure how high your payments will go after adjustment period

Balloon or Reset Mortgages

A Balloon Mortgage is like an Adjustable Rate mortgage, only after the adjustment period, the interest rate gets set only once instead of every year as in an ARM. The monthly mortgage payments are based on a thirty-year amortization schedule, with an adjustment period of five or seven years. After the adjustment period, you can either pay off the balance (refinance or sell) or reset the interest rate to whatever the current rate is. In other words, if you keep the balloon mortgage, you take whatever rate is on the market at the moment, much like an adjustable rate mortgage.

Resetting a balloon mortgage is typically offered to owner-occupants with good credit history. Others can apply to refinance the balloon mortgage, but even that's not a sure bet. Therefore, Balloon Mortgages carry some risk for the borrower, when the adjustment period is over.