What is a Fixed-Rate Mortgage?

What is a Fixed-Rate Mortgage?

Selecting the right home loan is a critical decision as it can affect your lifestyle, stability, and financial goals. Selecting a loan with favorable interest rates, fees, and terms can save you thousands of dollars over the loan's life, making it more affordable and manageable. In this article, we’ll take a deep dive into the popular conventional fixed-rate mortgage.

A conventional fixed-rate mortgage is a popular type of home loan in which the interest rate remains the same throughout the life of the loan. This means that your monthly mortgage payment will remain constant, which makes budgeting and financial planning easier.

How does a fixed-rate mortgage work?

When you take out a fixed-rate mortgage, you borrow money from a lender to purchase a home. The interest rate is fixed or constant for the entire term of the loan (typically 15 or 30 years). This means that your monthly payment will be the same every month until the loan is paid off.

Let’s take a look at an example. If you take out a 30-year fixed-rate mortgage for $200,000 with an interest rate of 4%, your monthly payment will be $955. This includes both principal and interest payments. If you make all of your payments on time, you will pay off the loan in 30 years.

What are the benefits of a fixed-rate mortgage?

There are several common scenarios where a fixed-rate mortgage may be the best option.

1. Planning to say in your home long term: If you are planning to buy your forever home, a fixed-rate mortgage may give you more stability in your budget for the long term. You may be able to make extra payments toward your principal to pay down your loan. And If interest rates drop, you may be able to refinance your mortgage to get a lower interest rate and save money on your monthly payments.

2. Buying in a low-interest rate market: If the current interest rates are low, it could benefit you to lock in the low rate for the lifetime of your loan.

3. Living on a limited budget: With a fixed interest rate, you know exactly what your monthly payment will be for the life of the loan. This makes it easier to budget and you won’t be surprised by an increase in your monthly payment. If even a small interest rate increase would require re-budgeting and lifestyle changes, a fixed-rate mortgage may mean the difference between peace of mind and financial stress in your household.

What are the drawbacks of a fixed-rate mortgage?

There are a few drawbacks to consider when looking at fixed-rate loans.

1. Higher interest rates: Fixed-rate loans generally have higher interest rates than the initial interest rate on adjustable-rate loans. For fixed-rate loans, lenders have to take into account interest changes over the term of the loan. Adjustable-rate loans may offer a lower interest rate for the initial fixed period because the interest rates ultimately change to fit the market after the initial period is over.

2. Interest rates affect qualification: When interest rates are high, the monthly mortgage payment of a 30-year fixed-rate mortgage may be quite a bit higher than the initial monthly payments for an adjustable-rate mortgage. This may mean you qualify for a larger loan amount with an adjustable-rate mortgage when interest rates are high.

Who is eligible for a fixed-rate mortgage?

To qualify for a fixed-rate mortgage, your lender will look at certain criteria.

1. Good credit: Lenders will look at your credit score and credit history to determine if you are a good candidate for a mortgage. A higher credit score can help you qualify for a lower interest rate.

2. Stable income: Lenders will review your monthly income looking specifically for stability that will allow you to budget and make your monthly mortgage payments.

3. Down payment: Lenders generally require a down payment of 20% of the purchase price for a conventional loan. A higher down payment may help you qualify for a lower interest rate and avoid private mortgage insurance.

4. Debt-to-income ratio: Lenders will look at your debt-to-income ratio to determine if you can afford to make your monthly mortgage payments. Your debt-to-income ratio is the amount of income you bring in compared to how much you spend each month.

How does term length affect your fixed-rate mortgage?

The most common term lengths for fixed-rate mortgages are 15 years and 30 years. Depending on the lender other fixed-rate loan terms may be available. A 30-year mortgage is a long-term loan that spreads out the payments over 30 years. On the other hand, a 15-year mortgage is a short-term loan that requires you to repay the loan within 15 years.

1. Interest rates: The interest rates on a 15-year mortgage are usually lower than a 30-year mortgage. This is because the lender is taking on less risk by offering a shorter loan term. The lower interest rates on a 15-year loan equal lower total interest paid over the life of the loan.

2. Monthly payments: Because a 30-year mortgage has a longer loan term, the monthly payments are lower than a 15-year mortgage.

3. Total cost: Due to the lower interest rates, a 15-year mortgage will cost less than a 30-year mortgage over the life of the loan. While the monthly payments may be higher, the total amount paid in interest will be less.

4. Affordability and flexibility: While a 15-year mortgage is less expensive overall, it may not be affordable when calculated for a monthly budget. The higher monthly payments may stretch your budget too thin, making it difficult to keep up with other financial obligations. A 30-year mortgage may offer more flexibility. The lower monthly payments may give you more financial freedom to invest your money elsewhere.

Conclusion

A fixed-rate mortgage is a popular option for homebuyers because it offers stability and predictability. With a fixed interest rate, you know exactly what your monthly payment will be for the life of the loan making budgeting and financial planning easier. When you use Realtyless as a homebuyer, you can easily compare rates from up to 3 local mortgage loan officers to secure the best financing option tailored to you.