There are three major types of home mortgages – fixed rate mortgages, adjustable rate mortgages and balloon mortgages. Each of these types have their own sub types, depending on the length of their terms and overall flexibility. To learn more about the three major types of home mortgages, along with their benefits and disadvantages, keep reading.
Fixed Rate Mortgage
The fixed rate mortgage is the standard, traditional mortgage. This is the mortgage your parents probably had. It’s easy to understand, simple to budget and very stable, predictable and steady.
A fixed rate mortgage offers the same interest rate over the entirety of the mortgage’s term. That way, you can expect the same monthly payment for the duration of the loan and look at a full and complete amortization table of your mortgage to see exactly where each payment will go over the next 15 or 30 years.
That is, even though the monthly principle and interest will add up to the same amount every month, the portion of that payment made up of interest on the loan will far exceed the principle amount during the earlier years of the loan and then gradually shift until the principle is much higher than the interest during the last several years.
The benefits of a fixed rate mortgage go beyond stability and can also translate to major savings. If interest rates are low, locking in your rate with a fixed rate mortgage before rates go back up could translate to big savings – perhaps tens of thousands of dollars – in the long term.
Adjustable Rate Mortgage
The adjustable rate mortgage tends to be for those who prefer a little more risk but lower monthly payments in the first couple of years or so. Despite the fact that homeowners with an adjustable rate mortgage tend to pay less overall in interest charges than homeowners with a fixed rate mortgage, there’s still an element of risk to be carefully weighed.
With an adjustable rate mortgage, your interest will change depending on the current standard interest rates. If rates fall, so does your rate and your monthly payment. If rates go up, the opposite is true. Essentially, the risk of fluctuating interest rates is passed to the borrower rather than the lender.
Because of that increased risk that you assume, lenders will offer very low introductory rates and a slightly lower ongoing rate.
The balloon mortgage is designed for homeowners who are expecting to live in their house for a short period of time or anticipate an influx of cash or equity within a few years.
The balloon mortgage works by setting up a loan that’s shorter in duration than the amortization period and then collecting the balance at the end of the time.
For example, you have a $200,000 mortgage and the loan is for 10 years, but it’s amortized over 20 years. That means, you’ll make monthly payments based on the face that it’s taking 20 years to pay it off. But, then after 10 years, you’ll have to pay for the remainder of the principal still owed. Hence, the analogy of a “balloon.”