In the previous article, we answered the question: What is a Mortgage? Now that you understand the basics of a mortgage, it’s time to dive deeper. In this article, we’ll discuss two basic types of mortgages, and pros and cons of each.
Most mortgages vary in the following characteristics:
- Interest: the financial charge for borrowing the lender. Interest is measured by an annual percentage, so a 5% annual rate means that the lender will charge interest equal to 5% of the borrowed amount per year. Mortgages can have fixed or adjustable interest rates.
- Term: the maximum life of the mortgage. Generally, longer terms will result in lower monthly payments but ultimately cost more in interest.
- Payment amount and frequency.
- Prepayment: paying part of the balance of a mortgage ahead of schedule. This often allows borrowers to pay off the mortgage much more quickly, but some types of mortgages may limit or require penalties for prepayment.
In a fixed rate mortgage, the interest rate does not change through the life of the loan. This offers predictability and stability: as the borrower, you are protected from unexpected changes in your monthly payments. However, if interest rates fall, you will be locked into the higher rate unless you refinance, which can be an expensive process. Fixed rate mortgages are typically very similar from lender to lender.
In an adjustable rate mortgage, the interest rate changes during the term of the loan to match current market conditions. ARMs often offer lower initial payments, and therefore can be easier to qualify for. Also, ARMs vary widely and can be more difficult to understand than fixed rate mortgages, so it’s especially important for borrowers to understand the terms and conditions to which the are agreeing.
So, which type should you choose to buy your ideal northern Michigan home? In general, fixed rate mortgages are better-suited for borrowers who have a steady and predictable income, and intend to own their home for an extended period of time. On the other hand, adjustable rate mortgages are often the better choice for borrowers who anticipate declining interest rates. Since they often offer lower initial rates and payments, they can also advantageous for those who anticipate re-selling their home early or being able to pay off their mortgage before the adjustment period is reached.
Although these are the two most basic and common types of mortgages, there are many other options available to northern Michigan buyers. In the next article, we’ll discuss some of the more specialized types of loans.
If you are interested in learning more about these types of mortgages and which may be best for you, contact your local bank or mortgage lender.
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