Mortgage Rates
Mortgage rates are much more complex than they first appear. Companies compete for business with advertisements that may not give the complete picture, as there are numerous variables that can ultimately impact the total payment cost. Provided here is a brief guide to understanding the factors that affect mortgage rates.
Fixed vs. Adjustable Interest Rate
Mortgage rates may feature either a fixed or adjustable interest rate. A
fixed rate means that the borrower will pay the same amount each month. In
contrast, an adjustable rate will fluctuate. The adjustable rate is tied to
a major federal index.
Typically, adjustable mortgage rates provide a fixed rate for a period of time that may range from one to ten years, after which the rate will begin to fluctuate annually. The fixed rate is often quite low, and the borrower may have the option to pay only the interest during this time. At the end of the fixed period, however, the borrower may face much larger payments as the principal is amortized only over the remaining life of the loan. A balloon payment may also be required.
Mortgage Points
Discount points represent fees that may be paid by the borrower or seller
to lower the interest rate. A point is worth one percent of the total
principal value of the loan. This money may be taken off the principal or
traded for a reduction in interest rate.
Origination points are fees that must be paid in order to obtain the loan. Origination points are sometimes called origination fees. Although they are generally relatively low, they do not offer a significant benefit to the borrower. If they are charged, origination points should be factored into any comparison of mortgage rates.
Both types of points must typically be paid up-front, at closing. They are generally the buyer's responsibility, although some sellers may be willing to pay them in order to close the deal.
Private Mortgage Insurance
If the borrower is unable to pay at least 20% down payment, the lender
will typically require him or her to purchase private mortgage insurance,
or PMI. This insurance protects the lender in the event that the borrower
defaults. PMI may range from $100 to $200 per month and is generally rolled
into the monthly mortgage payment. In most cases, the borrower may drop PMI
once he or she has 20% equity in the home, although high risk borrowers may
be required to continue PMI until 50% equity is achieved.
Taxes
It is common for real estate taxes to be rolled into the monthly mortgage
payment. The lender then holds the tax money in escrow and makes payment to
the state at the appropriate time.
The Bottom Line
Mortgage rates generally include a variety of factors beyond the interest
rate. Many experts recommend asking for an APR (annual percentage rate)
conversion from each prospective lender. However, it is important to
understand which factors are included in the APR. Only with this
information is it possible to accurately compare various loans and
ultimately make the best selection.
