While purchasing a home recently, I got a fast education in financing options. These days, there are many non-traditional mortgages, such as interest-only and balloon loans. It was not simple to figure out what made sense for me.
I got plenty of advice from family members. One relative is a proponent of the interest-only approach. One of his reasons is that it gives you more control over your cash flow. You can always pay down the principle if you want. If you need to spend money on other things one month, just pay the interest.
Another family member is vehemently against such loans. If you can’t afford a traditional loan, he told me, you can’t afford the house. Those loans are just designed to get people to spend more money on their houses and make the banks richer.
I am not going to tell you how I finally financed my home—mainly because I don’t want to listen to the person whose advice I ignored! However, figuring that I am not the only one who has struggled with this decision, I put together a mini glossary. This explains what the different mortgages are, as well as the upsides and downsides of each.
Fixed-Rate Mortgages
What it is: This is your grandfather’s loan—traditional and safe. A fixed-rate mortgage means the interest rate and principal payments remain the same for the entire life of the loan.
Upside: Consistent payments make this loan stable. Your rate won’t change, so you don’t need to worry about market fluctuations. This is a good option for your “forever house” because you will own it at the end of the mortgage, typically twenty or thirty years.
Downside: Your payments will be higher than if you did an adjustable-rate mortgage or interest-only loan. Most people move or refinance within seven years, so if rates in the current market are high, you may get a better deal with a non-traditional loan.
Adjustable-Rate Mortgages
What it is: An adjustable-rate mortgage, called an ARM, means the interest rate changes over the life of the loan. It typically fluctuates with the market. Most ARMs have a fixed payment for a certain number of years—three, five, or ten—and then the fluctuation starts. For instance, in a 5/1 ARM, the interest rate is fixed for the first five years After that, rate changes are not decided by the lender, but set by an outside market measure.
PREVIOUS PAGE
