It’s like picking your favorite flavor of Baskin-Robbins ice-cream — so many choices! But instead of 31 choices of blissful happiness, there are dozens of mortgage choices with confusing terminology.
OK, maybe it’s nothing like ice-cream (we tried) but choosing which kind of mortgage loan is right for you is a big step in the right direction if you plan to buy a home.
Like, the biggest.
Enter the ARM and FRM, two of the most common (but not only) types of loans up for grabs when you’re ready to buy. Here are the basics:
How about that “ARM”?
Short for an “adjustable-rate mortgage,” ARMs are loans with interest rates that go up and down as federal interest rates fluctuate.
What’s good about it: These loans typically start out with substantially lower interest rates (and payments) than the more common fixed-rate loan. They also have initial interest rates (or teaser rates) that stay low for a year or two — maybe longer, maybe shorter — until the fluctuations begin.
There’s a hitch: Once the initial rate is over, your loan becomes subject to the ebb and flow of federal interest rates. That means your payments can change every month, quarter, three years or five, cautions the Federal Reserve.
On the bright side, if you purchase your home during a time of high interest rates — when loans are more expensive — you generally reap the benefits of a lower rate on your first few mortgage payments.
What’s possibly not-so-good about it: Let’s say the brain trust at the Federal Reserve decides to dramatically boost interest rates. That means your interest rate goes up, which will boost your monthly payments.
Since interest rates are pretty unpredictable, there’s no telling when you might have to shell out a little extra on your mortgage.
Word to the wise: Keep your eye on financial markets, and set up Federal Reserve Chair Janet Yellen in a Google Alert.
Why would I choose this: If you’re interested in saving money on interest at the onset of your loan, then an ARM is a good, and cheaper, option for you.
Another advantage: Even if you don’t qualify to refinance when federal interest rates fall, you can still enjoy the benefit of lower rates because of the nature of the ARM (i.e., your payments drop regardless).
An ARM also makes sense if you’re only planning to live in your home for a few years. Because your payments and rates are low, you can build up savings to invest in a bigger, better home in the future.
What’s an FRM?
It’s a fixed-rate mortgage, considered one of the most desirable types of loans because the interest rate is fixed and your payments stay the same the entire life of the loan.
What’s good about it: Security. Because the interest on your loan doesn’t change, your payments will be the same month-to-month until the day you pay off your mortgage.
What’s possibly not-so-good about it: The interest rate on an FRM is usually higher than its ARM counterpart. And since FRMs don’t have any initial low-rate period, you’ll likely start making higher payments right out of the gate.
Also, if you choose an FRM but want to seize on fallen interest rates, you’ll have to refinance, which comes with a whole new set of closing costs.
Why would I choose this: You like certainty and hate surprises, particularly when it comes to the amount of money you spend on bills each month.
You don’t want to monitor financial market activity and worry about your payments changing on a dime.
And you’re pretty settled in your career, community and family and plan to live in your home for a long time.
For more details…
Contact a loan officer who can help you figure out what’s best for your budget.