Adjustable-rate or fixed-rate mortgage?
To decide what type is right for you, it's helpful to understand the differences and advantages.
What are the differences?
Fixed-rate mortgages work just as the name suggests. Once the interest rate is locked in (or "fixed"), it stays the same for the life of the loan, whether that's 15 or 30 years. Fixed-rate mortgages offer predictability, so they make sense for homebuyers who plan to stay in their homes for a long time.
Adjustable-rate mortgages (ARMs) begin with a fixed rate for an initial period of five, seven, or 10 years, but adjust after that. Once the initial period ends, the interest rate is recalculated every year (or possibly more frequently) for the remainder of the loan term. At each adjustment, the interest rate may go up or down depending on market rates. The initial interest rates for ARMs may be lower than fixed-rate mortgages, but ARMs are much less predictable over the long term.
The terms of an ARM are typically described as "5/1" or "7/1." The first number is how many years the initial interest rate is fixed, and the second is how frequently the rate can adjust after that. So, a 5/1 ARM would have an initial interest rate locked in for the first 5 years, then the rate will adjust each year over the life of the mortgage. It’s important to note that there may be annual and lifetime limits for how high the interest rate can move with an ARM. You could face a rapid increase once the fixed period ends.
When do ARMs make sense?
If you expect your income to increase.
Because the initial interest rates for ARMs are typically lower than for fixed-rate mortgages, you can reduce your monthly payments during the first few years of homeownership, when your money is tighter.
If you plan to stay in the home for a shorter time.
An ARM could make sense if you’ll likely be selling the home before the initial fixed period expires.
If you plan to invest the monthly savings.
You could invest the monthly savings from the ARM’s lower rate during the initial fixed-rate period. But consider if that amount is worth the potential higher interest rate you could face down the road.
Ready to take the next step?
Be sure you understand the terms of any loan you’re considering, so you have the information you need to make the right choice. We can help guide you through the homebuying process.