Fixed- vs. Adjustable-Rate Mortgages: Finding Stability or Flexibility

Buying a home is an exciting step, whether you are buying your first house, moving somewhere new, upgrading to your dream home, or downgrading to something more manageable. You found the perfect place for your next stage of life; now it’s time to finance. Each homebuyer has different needs and financial goals, and your mortgage should reflect that. Fortunately, there are a lot of home loan options to choose from.

Discover the differences between a fixed- vs. adjustable-rate mortgage. Keep reading to learn the benefits of each and how to determine which option is best for your unique circumstances. Explore these options to find the mortgage that works best for you.

An Overview: Fixed- vs. Adjustable-Rate Mortgage

There are two types of home loans in terms of interest rates: fixed-rate and adjustable-rate mortgages (ARMs). With a fixed-rate mortgage, your interest rate is locked in and stays the same throughout the life of the loan, offering predictability and stability. Conversely, the interest rates for adjustable-rate mortgages are variable and increase or decrease depending on market trends. Initially, the interest rate on an ARM is lower; some homebuyers opt for an adjustable rate for its flexibility.

Which loan is right for you? This largely depends on your lifestyle, current finances, desired budget, and financial goals. Let’s construct a blueprint for how each of these loan types works so you can compare the benefits and choose the right mortgage for your goals.

Understanding How a Fixed-Rate Mortgage Works

A fixed-rate mortgage maintains the same interest rate for the life of the loan. Regardless of market trends, your interest rate is locked in and will not fluctuate with the market. If interest rates suddenly rise, your rate is protected, and your monthly mortgage payments will not rise. Many homebuyers choose a fixed-rate mortgage for easy budgeting. For the entire loan term, your payments will remain the same each month. If you are looking for a stable loan that is easy to manage, a fixed-rate mortgage may be right for you. You can plan accordingly and budget easily.

Typical fixed-rate mortgages are offered as 15-year, 20-year, or 30-year mortgages. The longer the loan term, the lower your monthly payment. Keep in mind, however, the longer the loan term the more you pay in interest overall. It’s important to leverage affordable monthly payments and total interest paid for maximum savings. Can you afford higher monthly payments to pay less total and own your home outright sooner? Or do you prefer lower monthly payments so you have more money each month to put toward other financial goals? Choose the term length that moves you closer to your goals.

Understanding How an Adjustable-Rate Mortgage Works

The interest rate for an adjustable-rate mortgage is variable and fluctuates with interest rate trends, usually according to a particular index. Depending on the market, your interest rate may increase or decrease multiple times throughout the life of the loan. However, the initial interest for an ARM is typically lower than a fixed-rate mortgage, making it ideal for homebuyers planning on paying off their loan quickly or selling again within a few years.

Though ARMs are less predictable, they can provide more flexibility for homebuyers. These types of loans have a period during which the initial interest rate remains the same. Once this fixed period ends, the rate adjusts at regular intervals. The length of the fixed period can vary from lender to lender, though they typically range from 3 to 10 years. Shorter-term periods typically have lower initial interest rates while longer terms tend to have higher initial rates. Consider taking advantage of lower rates if you have plans to move before the initial fixed period ends or are working to pay off your home loan within 10 years.

Weighing the Pros and Cons of Each Option

When comparing fixed- vs. adjustable-rate mortgages, which one is right for you? Consider the pros and cons of each and weigh them against your life circumstances and financial goals.

Pros of Fixed-Rate Mortgages

  • Set interest rates don’t change and allow for easier planning and budgeting.
  • Protects homeowners from sudden increases in mortgage rates.
  • Provides stable, predictable, and easy-to-manage mortgage payments.

Cons of Fixed-Rate Mortgages

  • If interest rates decline, the interest rate on a fixed-rate mortgage doesn’t decline. To secure lower rates, you have to incur the added costs of refinancing.
  • It can be harder to qualify for a loan with higher interest rates.

Pros of Adjustable-Rate Mortgages

  • Monthly payments are initially cheaper than fixed-rate mortgages.
  • It can be easier to qualify for an ARM compared to a fixed-rate loan.
  • It offers flexibility for changing life stages.

Cons of Adjustable-Rate Mortgages

  • Monthly payments can change frequently over the life of the loan.
  • The borrower is left unprotected if interest rates increase, which can lead to financial hardship.
  • ARMs are unpredictable and more complicated, making it more difficult for long-term budgeting.

Deciding Which One Is Right

Are you saving to buy your forever home? Is your budget tight with little room for added expenses? Are interest rates at an all-time low? If so, you may prefer the stability of a fixed-rate loan. These are ideal for anyone planning on living in their home for a number of years, taking advantage of a low-interest market, or operating within a tight budget.

On the flip side, if you plan on relocating soon, selling your house, or paying off your loan in less than 10 years, then an ARM may be preferable. Take advantage of lower initial rates and make extra payments toward your principal before the fixed rate ends. Opt for an ARM if you are planning to pay off your loan early, buying a starter home and intend to move soon, or want lower monthly payments when interest rates are high.

When you are ready to secure your mortgage, set up an appointment with an expert lending team such as Capital Credit Union, located in northeast Wisconsin. The right loan professionals can help you select the right mortgage for your goals, budget, and financial situation. You’ll be moving into your new home in no time.