Budgeting Your Money and The Financial Benefits of a Fixed-Rate Mortgage

What are the benefits of using fixed-rate mortgage in purchasing or refinancing your home? If you are in an adjustable-rate loan, should you consider refinancing and getting out of it while you still can or buckling down and budgeting your money before interest rates get too high and home values drop?

There’s no simple answer to that question, since so much depends on your specific home, loan, and personal financial situation. But you’ll also find that, depending on your state or county, a different type of mortgage is appropriate for you. Sound confusing? It shouldn’t be: simply put, areas with home values that are increasing (and where interest rates are low) often choose to have adjustable-rate mortgages on their properties. On the flip side, many U.S. homeowners find a fixed-rate loan to be safer and less dependent on market conditions. It also provides people with security and a sense of self-confidence in their ability to meet financial obligations.

While an adjustable-rate mortgage (ARM) might work for you if you fully understand the terms and conditions, you have to work on budgeting your money. By their nature, in an ARM, interest rate will increase or decrease – and you should be prepared. In recent years, the interest rate has risen steadily, causing many homeowners with adjustable-rate loans to see rising costs in month-to-month payments.

An ARM is a gamble – you’re gambling that the interest rate will decrease and home values will increase. If you happen to be wrong, you could face an insurmountable monthly payment and a decreased home value.

On the other hand, you could look into a fixed-interest mortgage. As you look into the best home loan option, here are three advantages of fixed-rate mortgages to consider:

• Decreased risk. Your month-to-month mortgage payments are fixed. Even if the current interest rate increases, yours will stay put, which is an essential point of security for many homeowners. This is one reason why fixed-rate mortgages are popular, particularly with first-time home buyers.
• Secure long-term planning. Since your monthly mortgage payments won’t change, you have the security of planning out your payments throughout the life of the loan. You can carefully plan for things like property taxes and insurance, and it also allows you to be financially responsible in planning out your family’s future.
• Budgeting your money. For the most part, we can’t predict the ebb and flow of interest rates. Inflation may cause interest rates to rise, which would cause you a great deal of trouble with an adjustable-rate loan. With your fixed-rate loan, though, you can ride out the storm at ease. Your mortgage rates will stay the same, even if your taxes and insurance costs rise.

Fixed-rate mortgages have been a secure way for home owners to purchase homes for decades. Over the years, loan-to-value ratios have fluctuated and interest rates have moved up and down, but the security that a fixed-rate mortgage offers has never lost its appeal to homeowners throughout the U.S.

Fixed-rate mortgages may have a timeline between 10-50 years, but a 30 year amortization period is most common. People often choose a 30 year loan, because it often gives you a reasonable monthly payment to shell out. Rising home costs, though, have increased the number of 40- and 50-year loans being accepted. While that may be a good move to make the month-to-month mortgage payments reasonable, it does increase the amount of interest on the loan by stretching those interest payments over a much longer period of time – with a 50-year loan, almost twice the amount!

Understanding closing costs. Also known as settlement costs, closing costs are fees and expenses over and above the price of the property, incurred by the buyer and/or the seller in the property ownership transfer.

During the early years of a fixed-interest mortgage loan, much of your monthly payment goes toward eliminating the interest. As the loan progresses, though, that will change: slowly but surely, most of your payments will go towards that principal, such that by the end of your loan almost all of your money will go towards principal payments.

This type of fixed-interest payment plan means that it will be harder to sell your home during the first few years. Very little of the principal will have been paid off, so the loan will still be high. If the house did not appreciate in value, the financial situation gets difficult. However, if home values are increasing, then it will be a significantly smaller problem that so much of the principal has yet to be paid.

As the homeowner, you have some choices with this, too: making a larger monthly payment and directing more of it towards budgeting your money will decrease your principal loan balance faster, and decrease the amount of interest that’s left over. Say, for example, that you paid half of your monthly mortgage every two weeks; that would pay off your mortgage about 5.25 years faster than scheduled. Paying one extra payment per year would reduce the amortization period by 5.25 years, as well. Options like these aren’t requirements, but they do shorten your payment periods significantly.

Another factor to a mortgage loan is the “point” system. Points will decrease your interest rate if you pay an additional fee – about 1% of your loan for each point. Depending on your circumstances, it could be a good idea to invest in points, but you’ll want to calculate your overall savings before you start buying them. To recover the cost of those points, you’ll want to figure out your monthly savings with the lower interest rate versus the rate without points. Divide that number into your points to arrive at the number of months it will take you to break even. Beyond that, all of your savings are yours to keep.

To give an example of that, if you decide to pay for 2 points on a $300,000 loan (for an interest rate of 5% rather than 7%), your payment will be $1610.46. However, stuck with the 7% interest rate, you’re left with the payment of $1995.91. The difference between the two payments is $385.45.

Two points will cost $4,000. To recoup that investment, $4,000 divided by $385.45 equals almost 10.4 months. By your 11th month, not even one year of payment, you will begin to profit from paying those points with a personal budget planner.

Hopefully it’s become clear now that your choices involved in a fixed-interest rate mortgage loan can be extremely beneficial to your personal financial situation. There are many ways that you can decrease the term of the loan or the overall interest rates of the loan. With smart financial planning, you can be through that loan and into financial freedom quickly.

Further Reading on the Topic:

Personal Budget Planner

Budgeting Your Money

Home Budget