Types of Mortgages – Which One is Best for You?

by Scott Sery on July 4, 2012

Part of the American Dream is to own a home.  Many people strive to do so, and yet quite a few never actually own their home outright.  They end up carrying a mortgage the entire time.  Often it is because they move, and upgrade to a more expensive house.  Or they simply have chosen the wrong mortgage product.  There are many different types of mortgages a person can choose from; which is suitable depends on the individual financial situation.

30 Year Mortgage

Most people will opt for the 30-year fixed rate mortgage.  The concept is fairly simple, the loan is amortized over 30 years.  Every year the required principal and interest payments will remain the same, until at the end of the period the loan will be repaid.  Granted many people will choose to pay it off earlier in order to save some of the interest costs.  This loan is great in that the longer term allows for lower payments.  However, once the borrower is locked in, they are stuck at that rate.  In a dropping interest rate environment the only option to lower one’s rate is to refinance, which comes with closing costs and starting the 30 year mortgage over.

15 Year Mortgage

Like its 30 year cousin, the 15-year fixed rate mortgage is a fairly simple concept.  Rather than stretching the payments over 30 years, this loan will stretch them for half the amount of time.  Naturally, the principal payment will be larger, but since the term is shorter, the total amount paid to interest charges will be substantially less.  The benefit of this type of loan is that home ownership comes quicker, but it does require larger payments each month.  This loan will also lock the borrower into the interest rate.

5/1 ARM

The Adjustable Rate Mortgage is often looked down upon.  This type of loan will lock the borrower in at the current market interest rate for a set period of time (a 5/1 will lock in for 5 years, a 7/1 for 7 years, etc.).  At the end of that term, the loan will adjust to the new market interest rates every year thereafter.  This loan will work well for those who believe rates are going to go down, or those who do not plan to live in their house too much longer than the fixed rate period.  The benefit is that the rate for the first 5 years is often substantially lower than on the 30 or 15 year counterparts.

Interest Only Mortgage

An interest only mortgage is one where the borrower simply makes loan interest payments, but never pays anything towards principal.  At the end of the term, the borrower must arrange for new financing since they will still owe the full amount of the cost of the home.  These loans are used rarely, and almost always the borrower is expecting the value of the property to increase rapidly.  The lower monthly payments help them afford the loan, but they sacrifice building equity.

There is no mortgage that is right for everyone.  Each financial situation is different, and each person has different plans for their house.  A good mortgage broker or lender will help the borrower figure out the right loan for him or her.

If you are a homeowner what type of mortgage do you have?

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Scott Sery

Scott Sery is a native to Billings, Montana. Within an hour in nearly any direction he can be found fishing, hunting, backpacking, caving, and rock or ice climbing. With an extensive knowledge of the finance and insurance world, Scott loves to write personal finance articles. When not talking money, he enjoys passing on his knowledge of the back country, or how to live sustainably. You can learn more about Scott on his website ScottSery.com

{ 6 comments… read them below or add one }

TB at Blue Collar Workman July 5, 2012 at 8:08 am

My wife and I are 6 years away from being done with our mortgage, and so I’m proud to say that this post is not somethign I needed to read! It’s a great feeling to see somethign financial and have that mental relaization, “That’s not somethign I have to think about.” :-) Awesome. Although, nice sum up of mortgages!

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Sean @ One Smart Dollar July 11, 2012 at 7:41 am

That has to be a great feeling to be almost to the end of your mortgage. Congrats

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Worksavelive July 5, 2012 at 9:16 am

We currently are in a 30-year mortgage but if we’re able to sell our house and relocate to a neighborhood closer to our jobs then we’re going to get on either a 15 or 20-year mortgage.

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See Debt Run July 5, 2012 at 11:09 am

We went for the 20-year fixed. I guess that one’s not as popular? I wish we could have made the payments for the 15! We’d be halfway done by now!
-M

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Sean @ One Smart Dollar July 11, 2012 at 7:41 am

yeah payments for a 15 can be a little steep but you’re doing good to be on a 20 year.

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Sean @ One Smart Dollar July 11, 2012 at 7:42 am

What was the reasoning for getting rid of it I wonder.

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