Choosing Between Mortgages
by Ellise Walsh

One of the most critical aspects to the process of purchasing a home, besides choosing the actual home, is deciding which type of mortgage will best suit the consumer. Most mortgages are made for 15 or 30 year loans. That can be a long time to be tied down to a payment. The loan applicant will need to take into consideration how much money they can qualify to borrow, how much they have to set aside for payments and whether they are comfortable taking a risk with a variable interest rate loan.

Many consumers want the reassurance they will be able to access the lowest interest rates at all times. A fixed rate mortgage will not always allow this. With a fixed rate mortgage, the interest rate remains at whatever the prime rate was when the loan was originated, for the duration of the loan; even if that is 30 years. A variable rate mortgage loan offers more flexibility but also more risk. With a variable interest rate loan, the consumer will be able to take advantage of lower interest rates if the prime rate falls. This can be a substantial amount of savings over the course of the loan. There is a risk, however that the prime rate will rise, which means the homeowner will be paying more money in interest on the mortgage loan. The fixed rate consumer does not have this concern.

There is a compromise between the fixed rate mortgage loan and the variable rate mortgage loan. A capped loan allows consumers to access lower interest rates if they become available, but protects them from high interest rates above a certain limit. Another compromise is a discounted mortgage. In this type of mortgage loan, the consumer takes out a mortgage for a variable interest rate loan. While the interest rate will fluctuate in accordance with the current prime, the interest rate the consumer pays will always remain a certain number of points below whatever the current prime rate is.

While it is important for the consumer to shop around for the best interest rate, the lowest interest rate is not always the best. Lenders, like other companies, rely on competition and advertising for their business. Some banks and lending institutions will advertise a phenomenally low interest rate in order to attract prospective borrowers. The interest rate may be as much as a few points below what other lenders have offered. Consumers should be aware, however that this low interest rate may come with a high price tag. In order to makeup for the lost revenue of the low interest rate, lenders will include restrictions and penalties in the terms of the loan. Frequent restrictions included limiting the attractive low interest rate to only a portion of the entire length of the loan, such as one to three years. After that time period, the interest rate will rise to the current prime rate at the time. Another common restriction allows the lender to charge a penalty to the consumer should they decide to refinance the loan with another lender at a later point in time. The penalty is often so cumbersome it makes the savings of refinancing minimal.

Finally, lenders may try to make up the difference by requiring the consumer to purchase home insurance through them, rather than allowing them to shop around for competitive rates. Provided there are no requirements or penalties attached to a low interest rate, it can be quite advantageous for a consumer to shop around before making a final decision on a lender.

The prospective homebuyer will also need to make a decision between a 15 year mortgage and a 30 year mortgage. Both have advantages and disadvantages.

With a 30 year mortgage, the consumer is tied down to a payment for a much longer length of time. The payments are often smaller, but only because they are being spread out over a shorter period of time. In addition, interest rates may be slightly higher with a 30 year mortgage because the lender is going to be at risk for longer.

15 year mortgage payments are almost always larger than 30 year mortgage payments, because the loan is being paid off in a shorter amount of time. While the monthly payment difference between a 15 year and a 30 year mortgage may not seem that substantial, when viewed in terms of long term, it becomes tremendously important. A 15 year mortgage at a low interest rate can amount to a huge difference in savings.

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