When shopping for a mortgage, one of the most important decisions you will make is what type of mortgage to get. Here's what you need to know about a fixed-rate mortgage to make an informed decision.
What is a fixed-rate mortgage?
Investopedia describes a fixed rate mortgage as "a home loan with a fixed interest rate for the entire term of the loan." In other words, your monthly payment will stay the same, even if interest rates rise or fall.
What are the benefits of a fixed rate mortgage?
The main benefit of a fixed-rate mortgage is that you can budget your monthly payments. You'll know exactly how much you need to pay each month for the next ten, fifteen, or thirty years so you won't have to worry about your payments increasing if interest rates go up. In addition, having a fixed rate over the life of a loan is peace of mind for many homeowners.
On the other hand, an adjustable-rate mortgage fluctuates throughout the loan term depending on market conditions. As a result, your payments can change as often as every month, which can be stressful.
What are the drawbacks of a fixed rate mortgage?
The main drawback of a fixed-rate mortgage is that you may pay more interest over the life of your loan if interest rates go down. For example, if you have a 30-year fixed rate mortgage at 5% and interest rates fall to 4%, you'll still be paying 5% interest on your loan. Although if interest rates drop significantly, you can always refinance your loan.
Who determines mortgage interest rates?
Mortgage interest rates are determined by many factors, including the well-being of the overall economy, inflation rates, and the actions of the Federal Reserve. Banks borrow money from the Federal Reserve at a pre-determined interest rate and, in turn, charge borrowers a slightly higher interest rate.
During the pandemic, the Federal Reserve dropped the interest rate to zero to keep the economy moving forward, leading to fixed-rate mortgages reaching record lows. Conversely, to help fight post-pandemic inflation, the Federal Reserve has increased rates to over 2.5 percent, raising the rate at which banks lend on fixed-rate mortgages.
How do banks determine the interest rate that you pay?
While fixed rate mortgage interest rates are determined partly by the Federal Reserve, the interest rate you borrow money at depends a lot on you. Your credit score, payment history, and job longevity all play a part.
Now that you know all about fixed-rate mortgages, it's time to decide if this type of mortgage is right for you. For more information on fixed-rate mortgages, contact a professional near you.