A major factor in choosing an adjustable interest rate or a fixed interest rate mortgage comes down to your tolerance for risk. Risk when related to mortgages comes in two flavors. As a homeowner you assume a risk pertaining to your interest rate and how it affects your monthly payment. For a mortgage lender risk pertains to whether or not you’ll make your monthly payments on time or default on your loan. From a lender’s point of view a high risk loan deserves a higher interest rate. If you are a homeowner with a low credit score you pose a higher risk because you haven’t paid your bills on time. If you are unable to verify your income to qualify for the loan you’ll have to pay even more on your interest rate.
From the homeowners perspective you are asking your mortgage lender to guarantee the interest rate on your mortgage. The longer you are asking them to hold this rate the higher the risk to the lender. The money mortgage lenders have to loan doesn’t come at a fixed interest rate. Their risk comes from what they have to pay to lend that money to you for the length of time you have requested. In other words, the gamble for mortgage lenders comes from how much it will cost them over the term of the loan. Because of this mortgage lenders charge higher interest rates for 30 year mortgages than 15 or 10 year mortgage loans.
As a homeowner considering a fixed interest rate mortgage you are interested in shielding yourself from interest rate hikes. When you take out a fixed interest rate mortgage you have the luxury of knowing what your payments will be and what interest you will pay for the duration of the loan. In a climate where mortgage interest rates have been rising like today, this is a luxury preferred by many homeowners.
On the other hand if you are a homeowner that only plans to keep the loan for 3 or 4 years and would like to take advantage of historically low mortgage rates, an adjustable rate mortgage loan could be for you. The majority of homeowners today keep their mortgage financing in place for less than five years. Circumstances change, people change jobs, families, banks, or maybe a better offer comes along and you?ll be refinancing the mortgage again. If you don’t keep the mortgage for 10 years you could be better off taking the lower adjustable interest rate and pocketing the savings.
Whatever you choose needs to depend on your circumstance. There are not good or bad mortgages, just mortgages that are better or worse for individual homeowners. Fixed rate mortgages make a great security blanket; however, you could save yourself a lot of money by doing your homework and considering your options.
My name is Rob Regehr and I’m a personal finance writer with a chip on my shoulder for banks and brokers that take advantage of my friends and neighbors.
