Fixed Rate Mortgages: Back To Basics

By: Bill Wehr


In many sections of the country the home purchase market has slowed down. Prices of homes for sale seemed to go through the roof. Mortgage interest rates, while still low historically, are up from last year. During this volatile time the homebuyer can choose from a number of options. Fixed rate mortgages give the purchaser of a home a secure way to finance that home. Fixed rate mortgages allow for a more certain base from which to budget house payments for the future.

Recently, much activity in home purchase loans has been in the category of conventional adjustable rate loans. Adjustable rate loans offer some really attractive features. One is a lower entry rate generally than a fixed rate mortgage. There is a designated period of time when the buyer is paying that lower rate. The risk element is that the payment more than likely go up when it starts adjusting. This could really disrupt your budget, since your property taxes and homeowners insurance will be going up also over a period of time. But, the amount of increases could be minimal. The money you save by getting that lower rate up front could result in some real savings. So the real benefit is getting into the house with lower payments thereby affording the new payments.

Another popular way of getting into a home has been the interest only payment option. This can either be calculated on a fixed rate or adjustable rate mortgage. On the fixed rate mortgage program this interest only feature can last for as long as ten years. Then the mortgage payments are recast. If originally the loan was to amortize for thirty years it has to be paid off by the end of the thirty years. The way this happens is that the loan is recast so that the last twenty years of it includes enough to payoff the interest plus that entire deferred principal. This can result in a substantial increase in payments. On the adjustable rate mortgage the interest only option is in effect during the time the loan is in the fixed period time frame. As an example, if you have a 3-year, 5 year or 7-year period of time before your loan becomes an adjustable, the interest only portion covers that phase. When your loan starts adjusting, the deferred principal will be included in the new payments. As in the prior example: if the rates have gone up you will have higher payments.

A variation of these prior themes is the potential negative amortization ARM. This offers a low start rate. The payment is fixed for a certain period usually a year. The interest rate though is not set with the payment. Usually the interest rate adjusts monthly. Therefore, the payment may not be enough to meet the necessary amount to amortize the loan over the 30-year period. If the payment is not enough to amortize the loan as the months go on, then the shortage is placed against the mortgage balance. The lender will allow this to go on only for a definite period of time before there is a recasting of the payment to allow for complete amortization. Letís say your payments have been in a shortfall by the end of each year. At the end of the first five years the loan will be recast so that the loan can be paid off in the 30-year period. This will result in not only the possibility of higher interest rates, but you having to include the deficient balance in the payback resulting in even higher payments.

Between the asking price of homes these days, the costs to get into one, and the projected payments it will take to keep that house up, one could have sticker shock. Initially, the fixed rate mortgage loan may seem less attractive than an adjustable rate mortgage because of the somewhat higher payment. The adjustable rate and interest only mortgages may very well be the way to go, particularly if you looking to move into the next home in several years. But in looking at the overall picture, if you are going to be in the home for an extended period of time, the fixed rate mortgage will be what you are looking to for stability resulting in long term affordability.

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Bill Wehr publishes mortgage articles at www.mortgagejourney.com. Bill has an MBA and is the owner of Great Pacific Northwest Mortgage www.billwehr.com serving Oregon and Washington. For loans please complete a secure on-line application at www.portlandoregonmortgages.com.

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