Fixed vs. Adjustable - Command Home Mortgage, Inc. Centennial CO

           Fixed-Rate
                vs.
      Adjustable Rate
                     Mortgages

First, it should be explained, that your monthly mortgage payment usually consists of 4 parts:

1.) Principal
2.) Interest
3.) Property Taxes
4.) Property Insurance

If there is a Homeowners Association fee involved, that too is usually included in your total payment for qualifying purposes.

Fixed-Rate Mortgage

Your monthly payment of principal and interest never changes over the life of your loan.
However, your property taxes and homeowner's
insurance premium certainly can change.
Fixed-rate mortgages are available in 40-year,
30-year, 20-year, 15-year, and 10-year terms.

Adjustable Rate Mortgage (ARM)

Your interest rate and therefore your monthly principal and interest payment is fixed for a
period of time, usually anywhere from 1 month
to 10 years; it's your choice. After the fixed
period expires, the interest rate can be adjusted either up or down, depending upon on interest rates at that time. The shorter the fixed period chosen, the lower the beginning interest rate
(start rate). The start rate for an ARM should always be lower than that of a fixed-rate mortgage.
ARMs are usually amortized over 30 years,
making monthly payments for an ARM lower than for a standard 30 year, fixed-rate mortgage.

When the initial fixed-rate period of the ARM expires, the new interest rate is determined by what is known as the "Index" and the "Margin"
added together.

The Index:

The indices that are used vary by the mortgage loan program and mortgage lender you are
using. Examples of some of the more widely
used indices are: the 6-month Certificate of Deposit (CD) rate, the one-year U.S. Treasury
Bill rate, the Federal Home Loan Bank's 11th District Cost of Funds Index (COFI), and the London Inter-Bank Offered Rate (LIBOR).

The Margin:

The margin rate is determined by the mortgage investor (the one who is loaning the money). Generally, margin rates usually range from 2.25% to 2.75% and are fixed for the life of the loan.

When you add the index rate to the margin rate, you get the interest rate that will be charged each time you begin a new adjustment period (usually yearly).

Most ARMs have both an adjustment cap and a lifetime cap. The adjustment cap refers to the maximum the interest rate can rise during any
one adjustment period. The lifetime cap refers
to the maximum interest rate that can be charged over the life of the loan.

Example:

If you have a start rate of 4.75% for a 3/2/6 ARM. This means your start rate (4.75%) lasts
for 3 years; your new adjusted rate can never
be more than 2% higher than your previous
rate; and your lifetime cap is 6% above the
start rate; in this example that would be 10.75% (4.75% + 6.00%).

Pros and Cons:

Fixed Rate:

Not susceptible to interest rate fluxuations.
No matter what interest rates do over the time
you own your property, your principal and
interest payments will never change. Cannot take advantage of lower rates without refinancing.

ARMs:

Have lower start rates, thereby lowering your monthly payment at the beginning of your loan.

If interest rates fall at the end of your fixed-rate period and depending what your margin is, you may be able to take advantage of lower interest rates.

If interest rates rise at the end of your fixed-rate period, you will be paying higher interests.

ARMs are especially good if you know you will not live in your home past a certain amount of time. For instance, if you knew you wouldn't be living in your home past 5 years, then a 5-year ARM would be advantageous for you.

ARMs may be good if you have a good use for
the money you save on your initial monthly payments; such as making investments, education, paying off debt.