When shopping for a mortgage, you have to make one important choice. Will the new mortgage have a variable interest rate or a fixed rate? Both choices come with benefits and disadvantages. This article will help you find out which one is best for you.
What they are
A fixed interest rate loan is a loan in which the interest rate will remain the same for the entire term of the loan, no matter what market interest rates do. This means that homeowners will have the exact same monthly payments during the entire life of the loan. Whether this is better for the homeowner or not depends on the interest rate environment when the loan is taken out, and, of course, on the duration of the loan.
A variable interest rate is the exact opposite of the fixed rate. For such a loan, the interest rate charged on the outstanding balance varies as market interest rates change. This means that the monthly payments will vary.
Pros and Cons
The thing about fixed rate loans is that, no matter what happens to the market interest rate, it stays the same. This means that you will be safe if interest rates go up, but, unfortunately, you’ll also see no benefit if they go down.
If you’re in a situation where interest rates are low, it’s better to lock in your mortgage at a fixed rate. This means that the interest rate on the new loan will remain fixed, even if interest rates climb to higher levels.
But, like we said earlier, if interest rates decline, you’ll gain nothing from a fixed rate. This is where a variable interest rate is the better option. Over time, interest rates continue to both rise and fall. And, according to several studies, the borrower is likely to pay less interest over time with a variable rate than with a fixed rate. However, you still have to factor in the amortization period of a mortgage. The longer the period, the greater the impact a change in interest rates will have on payments.
If you find yourself in a decreasing interest rate environment, an adjustable-rate mortgages are the ones for you. However, if it’s the exact opposite and you feel that interest rates will rise, then it’s better to lock in your mortgage.