While lenders offer many types of mortgages, the most common are fixed-rate mortgages. These home loans have a fixed interest rate and monthly payment, typically with a 15-year or 30-year term. Fixed-rate loans are also known as conventional loans, as they have been around the longest.
Fixed-rate mortgages are popular because:
- The borrower knows their mortgage payment will not change
- When mortgage rates are low, fixed-rate loans are very affordable.
With a fixed rate mortgage, each month's mortgage payment is equal to the interest rate times the principal on the loan, along with a small percentage of principal. At the beginning of the loan, most payments will go toward interest. Toward the end of the loan, most of the monthly payment will go toward principal.
Disadvantages of a Fixed-Rate Mortgage
While fixed-rate loans allow borrowers to plan easily for their housing costs and take advantage of low mortgage rates in the long term, the interest rate on a fixed-rate loan will be higher than an adjustable-rate loan. This makes a fixed-rate mortgage more expensive if mortgage rates remain the same or drop. Borrowers who choose a fixed-rate loan also gain equity slower than with an adjustable-rate mortgage, because most payments during the first few years go toward interest, not principal.
Fixed-rate mortgages are not the best option for borrowers who plan to sell their home within 5-10 years.
15-Year Versus 30-Year Fixed-Rate Mortgages
Fixed-rate borrowers generally make a single major decision: a 15-year or a 30-year mortgage. Each comes with advantages and disadvantages.
A 30-year fixed-rate mortgage has the following benefits:
- Borrow money long-term without worrying about changing payments or rising interest rates.
- Monthly payments are lower than a 15-year mortgage.
- A lower payment may allow borrowers to put money into other investments.
- With a higher interest bill, borrowers can deduct more on their federal income taxes.
A 30-year mortgage can also have some disadvantages, however. Borrowers will build equity much slower and pay significantly more in interest charges. The interest rate on the loan will also be higher.
A 15-year fixed-rate mortgage comes with the following advantages:
- Borrowers build equity much faster with a shorter amortization schedule.
- Borrowers pay much less in interest charges.
- Interest rates are lower.
A 15-year loan will have a higher monthly payment, and homeowners may be restricted to a smaller home than they could have afforded with a 30-year loan.
With mortgage rates at historical lows, it usually makes sense for you to choose a fixed rate loan over an adjustable rate loan. Most experts agree that fixed rate mortgages are a better deal when rates are low, even if you plan to stay in the home for a relatively short amount of time. Fixed rate mortgages also make sense if you prefer payment and interest rate security and are willing to pay more in the long run.
If you are having difficulty choosing between a Fixed-rate and adjustable-rate home loan, use a mortgage calculator to compare the costs. You should also consider the worst-case scenario. If rates go up on an adjustable-rate loan, would you still be able to afford your mortgage payments?