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Is a Fixed Rate or Adjustable Rate loan best for you?

Every home loan is not the same. Just as different people have different housing needs, the same applies to their financial needs.

The most common home loans are fixed rate and adjustable rate loans.

Fixed rate loans

Fixed rate loans have a stated interest rate that does not change over the life of the loan. Your monthly home payments will remain the same from the moment you take the loan until you finish paying it off.

During this time, you will pay the interest on the loan, while incrementally paying down the initial amount, too. In the industry, this is known as an "amortizing loan," since the principal amount is being paid down with each payment.

This eventually leads to completely owning a home outright.

Adjustable rate loans

Unlike fixed rate loans, adjustable rate mortgages, or "ARMs," are linked to a financial index and change as it changes. This means that your monthly payments may increase or decrease, depending upon the market.

Why consider this option? There are several reasons, many of which may be extremely helpful to first time home buyers.

Because you are assuming some of the risk, the lender will generally reward you with a lower interest rate during this initial fixed interest period. As a result, you can enjoy lower monthly payments, freeing up cash for your new home.

Many lenders offer hybrid ARMs that start off with a fixed rate period, which might be anywhere from 6 months to 10 years. These can be attractive to home buyers who don't plan on staying in their homes for more than 5 years.

Adjustable rate mortgages have plenty to offer, and may help smoothen the way to homeownership. But if you are planning to stay and prefer stability, a fixed rate may be the better way to go.

Home Buyer Tip

Use your home equity to reduce debt and taxes

If you're running balances on credit cards, you cannot deduct the high interest you're currently paying. But a home equity loan may offer much lower interest rates and it's tax deductible, which may save you even more. (Consult your tax advisor for details.)

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