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Fixed Rate Versus and Interest Only Mortgage

Fixed Rate Mortgage versus an Interest only Mortgage - With a fixed rate mortgage (FRM), your monthly payments will be steady

Interest only loans are available with both fixed rates and adjustable rate mortgages. Paying the interest only allows borrowers to lower their monthly mortgage payment.

With an Interest Only loan, you make no payments to principle. They only way to gain equity is to make additional higher payments or choose a home in a high appreciation area.

In contrast, with an adjustable rate mortgage (ARM) , your payments will vary over time.

The average homeowner in America sells or refinances roughly every 5 years. Keeping this in mind, it may not always be in your best interest to go with a fixed rate mortgage for 30 years. An ARM loan may be more appropriate for you, especially if you know you plan on moving or refinancing within the first few years. A 5/1 ARM will generally provide a lower interest rate than a 30 year fixed rate mortgage will and the lower rate will equate to a lower mortgage payment. So think about not just the now when obtaining a mortgage but the near future as well.

Adjustable rate mortgages typically have an initial fixed rate lower than the rate of a comparable fixed rate mortgage. The initial fixed rate period is followed by adjustment intervals. For example, a "3/1 ARM" is fixed at an initial low rate for the first 3 years, and then adjusts every year based on an index. Common ARMs are: 1/1, 3/1, 5/1, 7/1, and 10/1. (Don't confuse ARMs and balloons )

Interest Only is an option that can be chosen for most types of mortgages, Fixed or ARMs. The interest only option allows the borrower to make only interest payments. This is usually only allowed for the first 5-10 yrs. Choosing an interest only option can also affect your interest rate. There is usually an add on of 0.25% - 0.5% to the interest rate for interest only payments.

Interest only advantages - An interest only loan is a loan where you only pay the interest that is due each month. Your principle balance always remains the same. One advantage of an interet only loan is that your monthly payment will be lower, since you arent paying down the balance at all. This gives you more cashflow each month and allows you to manage your finances more efectively.

If you are currently having trouble qualifying for a mortgage because your debt to income ratio (DTI) is to high, an interest only loan may be able to help you get your new mortgage. Since the payments are less, your DTI will be lower and it could be enough to qualify you for your new mortgage.

An interest only loan may allow you to buy another property or two if you are trying to become or you are a real estate investor. By lowering your monthly payments you may be able to qualify for more properties with the lower debt ratios that the interest only loans may provide. Interest only loans are great for real estate investors and for purchasing a second home, especially in areas with high appreciation.

Although you aren't required to pay down the balance of your loan with an interest only loan, you still have that option. You can choose to pay more each month if you would like to pay the loan off faster. A competent loan officer should be able to tell you how much extra to pay each month in order to pay off the loan by a certain time. You can choose to pay any amount that is greater than the interest payment.

An advantage of interest only loans is you get to decide how to spend that money every month to benefit you most. Perhaps you want to pay it toward higher rate credit cards. Perhaps you want to pay off your car loan sooner. Perhaps you want the option every month of paying it toward your mortgage or not. Your choice!

An interest only loans payment will decrease as the principal balance is payed off.

The advantage of the interest only payments is the monthly savings compared to an amortizing payment (principal and interest). The basic premise is that in the first 5-10 years of a mortgage you hardly pay any of the principal down to build equity. In most cases the vast majority of equity comes from the increased market value of the home and not the principal balance being decreased by amortized payments

If your home is an income producing property, payments on an interest only mortgage may be fully covered by the rental income, thereby allowing you to own the property without making out of pocket mortgage payments.

If you live in an area that is appreciating quickly, an interest only loan allows you to reduce your monthly payment. The appreciation will build equity in your home even if you don't pay down any principle.

Interest only loans are available with various terms. The interest only period may be anywhere between 5 and 30 years. The longer the interest only rate is fixed, the higher the rate.


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