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Mortgage Rates Briefly Explained

Rather than explain mortgage rates every time I write about home financing, let me briefly explain the differences between fixed and adjustable rate mortgages, and mortgage points here. Good, clear mortgage information can be hard to come by, but I have tried to make everything as straightforward as possible here.

What is the difference between a fixed rate mortgage and an adjustable rate mortgage?

It’s mortgage rates 101: the difference between a fixed and adjustable rate home loan. Just like it sounds, a fixed rate mortgage stays at the same interest rate for as long as you are paying down the loan, regardless of whether interest rates, in general, go up or down.

Conversely, an adjustable rate mortgage can go up (and sometimes down) based upon the overall interest rate market. Sometimes it is possible to get an adjustable rate mortgage at a much lower interest rate than a fixed rate mortgage, but the rate could skyrocket in a matter of a few years.

Other adjustable rate mortgages (also called ARMs), include a very low introductory mortgage rate for five or seven years, followed by a much higher rate. These loans are designed for home buyers who expect to live in their home a very short period of time, to refinance at a later date, or to flip the home for investment purposes.

While adjustable rate mortgages can be a valuable home buying tool in certain situations, they can also be dangerous, and are partially responsible for the massive rise in foreclosures and collapse of real estate prices that sparked the 2008 recession.

What are mortgage points? Mortgage points are essentially fees that you pay on a mortgage loan when the loan is distributed. One point is equal to 1% of the mortgage value. So, on a $250,000 mortgage, one point would equal $2,500.

Why would anybody pay mortgage points? Good question. In many cases, if a borrower has poor credit or lending is especially tight, a home buyer may have to pay points to be able to get any mortgage loan at all.

Often, however, mortgage lenders will offer the option of paying points in exchange for a lower interest rate on the mortgage. Sometimes, paying points can actually save a homebuyer money over the life of a mortgage. A reputable mortgage broker should be able to show you how a different points/interest rate combination might apply to your situation (whether you intend to live in your home for 50 years or sell in 5, for example). You can also get several competing mortgage quotes online pretty quickly, and use banks’ online quote tools to compare rates.

Source: Weliver, David. "Mortgage Rates Briefly Explained." 15 December 2008. Money Under 30.


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