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Fixed vs. Variable Mortgage Rates: Which One Is Right for You?

November 29, 2023
Exterior of the Declan plan at Wendell Falls by Brookfield Residential in Wendell NC

Buying a new home involves a lot of decision-making. When it comes to financing your new home, a major consideration you’ll have to make is whether to get a fixed-rate mortgage or a variable interest rate. Each option has pros and cons, so it’s important to understand the key differences.

In this blog, we explore both mortgage rate types, important differences between fixed and variable interest rates, and answers to some common questions.

What is a Fixed-Rate Mortgage?

A fixed-rate mortgage has the same interest rest for the life of the loan. This means your monthly loan principal and interest payment won’t change, which makes budgeting easier.

It’s important to note that if you opt for an impound or escrow account (meaning your mortgage company collects and processes your homeowner insurance and property tax payments), changes to your taxes or insurance premiums will affect your overall monthly mortgage payment.

What is a Variable Interest Rate (Adjustable-Rate Mortgage or ARM)?

An adjustable-rate mortgage has an interest rate that changes at set intervals after a fixed period, during which the initial interest rate remains constant. The introductory interest rate on an ARM is generally lower than that of a comparable fixed-rate loan. Once the introductory term ends, the rate adjusts at specific regular intervals and can either increase or decrease depending on broader interest rate trends.

What are the Key Differences Between a Fixed-Rate and a Variable Mortgage Rate?

1. Monthly Payment Predictability

The biggest difference between a fixed-rate mortgage and an ARM is that your monthly principal and interest payment won’t ever change with a fixed-rate loan. With an ARM, your mortgage payment changes once the introductory period and at regular intervals throughout the life of the loan.

For example, a 5/1 ARM would have an initial fixed-rate period of 5 years. After that timeframe, your rate would adjust every 1 year thereafter. The initial fixed rate is typically lower than a 30-year fixed rate mortgage, but may increase or decrease after the first 5 years, depending on market conditions and the terms of the loan.

2. Interest Rate Stability

A fixed-rate mortgage is constant, which provides many homeowners with peace of mind as they don’t have to worry about sudden and potentially significant increases to their mortgage payment. A variable interest rate fluctuates over time and may surpass the rate for a comparable fixed-rate loan.

3. Risk Tolerance

If you consider yourself to be risk-averse, then a fixed-rate mortgage may be better suited to you. A variable mortgage rate may be more attractive if you’re willing to accept unknown future rate fluctuations for known lower initial payments.

Common Questions About Fixed vs. Variable Mortgage Rates

1. What should I consider when choosing between a fixed and variable mortgage rate?

When choosing a mortgage, you need to consider several factors, including your financial situation, long-term plans, and current mortgage rates.

  • What amount of mortgage payment can you afford today?

If you’re on a tight monthly budget, a fixed-rate loan gives you certainty on your monthly principal and interest mortgage payment. While ARMs have attractive low initial interest rates, they can be unpredictable in the future. If a small rate increase means financial stress for your household, you’re better off with a fixed-rate loan.

  • Could you still afford an ARM if interest rates rise? 

With adjustable-rate mortgages, your interest rate will change over time based on market conditions for the life of your loan. That doesn’t mean your interest rate will change indefinitely or without notice. Lenders place a cap on the number of times your interest rate can change and on the amount that your rate can rise or fall over the life of your loan.

Check your lender’s specific caps on how much the interest rate can increase, then calculate how much your mortgage payment would be if rates rose to those levels. Would you be able to afford those payments? If not, you may be better off with a fixed-rate mortgage.

  • How long do you intend to live in the property?

If you’re planning for your next move to be permanent (or at least long-term), the stability of a fixed-rate mortgage might be the best option. If your goal is to build some equity and you’re fairly certain you’ll move before the ARM adjustments begin, you can save a lot of money with a low initial ARM payment.

  • What are current interest rates?

When interest rates are high, choosing an ARM may make more sense. An ARM changes as the market changes, so when rates go down, your interest rate will, too. If interest rates are low, you can save thousands of dollars by locking in a low fixed-rate mortgage. Even if fixed-rate loans are initially higher than ARMs, you’ll enjoy the benefits of a lower interest rate when rates eventually increase.

2. Is an ARM riskier than a fixed-rate mortgage?

Generally speaking, an ARM comes with a greater risk of higher monthly payments if rates become higher in the future. That long-term risk, however, comes with the short-term reward of a low monthly payment during the introductory period.

3. Can I switch from a variable rate to a fixed rate or vice versa?

Yes, it’s possible, but switching might incur costs, such as prepayment penalties or refinancing fees, so you’ll want to consider the long-term benefits carefully.

Key Takeaways

There isn’t a one-size-fits-all answer when choosing between a fixed mortgage rate and a variable interest rate. It ultimately depends on your financial situation, risk tolerance, and future plans. Understanding the key differences and asking the right questions can help you make an informed decision that aligns with your goals and budget.

For more assistance, connect with our experts at BRP Home Mortgage. They’re ready to help you review the best mortgage options for your specific situation.

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