Home Mortgage 101 - Which Mortgage is Right For You?

The key to home ownership for most of us is the home mortgage.  A home mortgage allows you to get a loan from a banking institution or lending company.  The mortgage loan is the money that the lender gives you for home ownership.

There are two basic types of home mortgages: the fixed rate home mortgage and the adjustable rate home mortgage.  Which one is right for you?  This will depend on a number of factors. 

What Can I Afford?

First, you will want to decide exactly how much you can afford for a down payment.  You also want to know exactly how much you can afford in monthly payments. The total monthly payment typically consists of mortgage principal reduction, mortgage interest, taxes, and insurance.  Sometimes you'll see it called PITI for simplicity in communication. 

Adjustable Rate Mortgages

An adjustable rate home mortgage is one in which the interest rate may change over time.  Adjustable rate mortgages tend to have somewhat lower interest rates compared to fixed rate home mortgages.  The interest rate may be fixed for a number of years before it starts to adjust or can start adjusting within the first year.  When your interest rate adjusts, your monthly payment will rise or fall, depending on the direction of the index on which your rate is based.

BEWARE of 'teaser rate' loans, which offer a very low interest rate is that only lasts a short period of time.  Many homes now in foreclosure ended up there because the borrower could afford the initial payments but could not handle them after rates adjusted upward significantly, adding hundreds of dollars each month to their payments.  

Is an adjustable rate home mortgage right for you? This depends on your income and the type of adjustable rate home mortgage payment plan you want. Adjustable rate home mortgages can prove risky in the long run because they rely on the interest rates of the market to adjust their own interest rates. That means that monthly home mortgage payments are uncertain. However, when interest rates in the market are low, you also stand to gain savings with an adjustable rate home mortgage. 

Fixed Rate Mortgages

Fixed rate home mortgages are those in which interest rates remain set for the duration of the loan term.  In most cases, monthly payments for a fixed rate home mortgage can be for either 15 or 30 years.  Fixed rate home mortgages have very stable monthly payments over time because your interest rate does not change.  Note that you will see changes in your monthly payment each year due to changes in your property taxes and insurance costs. 

Loan Amortization - How long until it's paid off?

A 15-year fixed rate home mortgage has a shorter amortization period and equity builds up quickly.  You'll also pay substantially less total interest over the life of the loan.  These benefits come at a price -- a 15-year fixed rate mortgages will have a much higher monthly payments than the same loan amount with a 30 year amortization schedule.

A 30-year fixed rate home mortgage has a fixed rate home mortgage with a 30-year loan term. This gives the borrower the opportunity to borrow money on a long-term basis. The amortization period for a fixed rate home mortgage is longer and the monthly payments tend to be much lower. However, it can be hard to build up equity.

If the size of the monthly payment is not an issue, choosing between a 15-year fixed rate mortgage and a 30-year fixed rate mortgage may be your biggest challenge.  While some consumers prefer a 15-year fixed rate mortgages, most choose a 30-year fixed rate mortgage because the payments are considerably lower. 

Choosing Between Mortgage Options

The most important question you need to ask yourself is "how long do I plan to stay in this home"?  If you don't plan on staying more than a few years, an adjustable rate mortgage with the rate fixed for longer than you expect to stay may suit you best. 

If you plan on staying in the same place for the long haul, go for a fixed rate interest loan.  This is especially true while interest rates are well below their historical average, as they are now. 

In summary, there are a number of choices that you must make to decide which home mortgage loan is right for you.  Be sure to use the free mortgage calculator on this website to make it easy to compare your options!