One of the great debates you may have while considering loan options is between an adjustable rate mortgage and one that is fixed. There are pros and cons to each. Below, we face them off against each other.
Fixed vs. Adjustable Rate Mortgage |
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The tried and true fixed loan |
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The ultra-attractive adjustable loan |
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| Strengths |
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Strengths |
- Rate stays the same for the life of the loan. The loan term could be 15, 30, even 50 years and the rate will never change.
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- Rates are lower than their fixed counterparts resulting in lower initial payments
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- Can always count on payments. There are no surprises. What you pay today is what you'll pay 15 years from now.
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- If interest rates are better when the loan is due to adjust, your rate could lower and you don't have to pay fees to refinance.
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- Simplistic terms. Unlike an ARM, a fixed rate is very straightforward and appeals to less sophisticated borrowers.
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- Short-term affordability. If you don't plan on staying in one place for long, an ARM will save you money with it's lower initial rates.
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| Weaknesses |
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Weaknesses |
- Rates can be prohibitive. Some borrowers need a lower interest rate to afford monthly payments. Fixed rates are always going to be higher in the beginning.
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- It's risky business with an adjustable rate mortgage and the rate will probably increase over time. It's actually conceivable that a rate could double after adjusting.
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- Better future rates mean refinancing. Refinancing means closing costs meaning that to take advantage of better rates, it will cost you a few thousand dollars.
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- It's pretty certain that the adjusted rate will be higher than current fixed rates because you were given an artificially low rate to start.
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- Standardized loans. There's not much flexibility with a fixed rate whereas an ARM can be customized to fit a specific need.
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- They are confusing. ARMs have a lot more variables that can easily be misunderstood.
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Now that you've seen the strengths and weaknesses of a fixed versus adjustable rate mortgage, you should ask yourself a few questions.
1. How long do you plan to live in your home?
If you are going to move in five years, an adjustable rate mortgage makes sense. There would be no need to pay a higher rate on a long-term fixed loan.
2. Are you able to weather an increase?
If you were to stay in your home longer than expected - or just chose an ARM hoping rates would drop in the future - and the rate were to go up, would you be able to afford the new monthly payment? It's a good idea to prepare for this possibilty.
3. What do rates look like right now?
If fixed rates are high, an adjustable rate mortgage may be a a better fit. Rates may come down in the future and you wouldn't have to refinance. Of course, this is a risky game, because no one knows for sure what rates will do.
In looking at a fixed vs. adjustable rate mortgage, it's important to be honest with yourself about your situation and what you expect to happen in the future. Both programs can be beneficial but only if they are used in the right situation.
