Fixed-Rate vs. Adjustable-Rate Mortgage Loans

As you might imagine, FRMs are more popular. Most home buyers want the security of knowing how much their mortgage paying will be each month. An FRM will allow you to more easily manage your monthly and yearly budget. If you have an FRM and rates do drop precipitously, you can always refinance.

On the other hand, some homebuyers are drawn to ARMs, which often feature lower initial interest rates. For example, an ARM can be a good choice for a young couple purchasing their first home; they may not have a lot of assets now, but they anticipate making more money within a few years. An ARM can let them take advantage of low rates now, and they will be able to afford a slighter higher rate in the future. And in a few years, they can refinance with an FRM to lock in a favorable rate.

Which type of mortgage is right for you? Basically, it comes down to two factors:

1. How comfortable you are with risk
2. How long you plan to live in the house

Clearly ARMs are riskier than FRMs. But taking on more risk may result in a lower rate -- at least temporarily. But if you plan on staying in the house for a long time, an ARM can be particularly risky -- and potentially confusing -- since rates will fluctuate many times over and there will be more adjustments. Conversely, if you plan to move after five or six years, you could take a 5/1 ARM, meaning the first five years are locked in (at a low rate) and it converts to an adjustable rate after that -- right about the time you plan to sell.

Read "Finding the Best Mortgage Loan Rate."