A fixed-rate mortgage (FRM) is a category of mortgage characterized by an interest rate that does not change over the life of the loan. Most fixed-rate mortgages are fully-amortizing, which means the payment first covers the interest charge for the previous month, and then what’s left is used to reduce the principal balance. Every month, as the principal balance gets smaller, less of the payment is needed to cover the previous month’s interest, and more is allocated toward the principal reduction. At the end of the loan’s term, the balance is extinguished and the mortgage is paid in full.
In this video, Victor Benoun defines the primary attributes of a fixed rate mortgage.
Fixed-rate mortgages come in a variety of terms ranging from five to 50 years. The most common are:
Fixed-rate mortgages can make budgeting easier for borrowers, because the principal and interest payment does not change. That is good when interest rates are rising, but when interest rates fall, borrowers with fixed rate home loans must refinance in order to take advantage of lower rates on the market.
When applying for a fixed rate mortgage, you may encounter the term discount points. Discount points refer to fees paid upfront to get a lower interest rate. One point equals one percent of the loan amount and usually buys down the interest rate 0.25 percent. For example, if you are looking at getting a loan for $200,000 at a 7 percent interest rate, you can purchase 2 points at $4,000 to get an interest rate of 6.5 percent.
The amount of your down payment determines whether or not you will have to pay private mortgage insurance (PMI). Usually if you obtain a mortgage but put down less than 20 percent, you are required to pay PMI. This is to protect the lender in case you default on the loan. Once you have paid 20 percent of the principal of the loan, you can contact your lender to stop paying PMI.
A fixed rate mortgage can be a good option for buying a home. If you plan to stay in the home for a very long time, a fixed mortgage may be right for you. You have the security of knowing what your payment will be each month since the interest rate will not change. If it looks like interest rates are going to rise, a fixed rate mortgage can be a better option than an adjustable rate mortgage (ARM), which has an interest rate that changes at set intervals. You can secure your interest rate before they rise and keep that rate for the term of your loan.