A classic fixed rate mortgage is the most popular lending program, offering consistent monthly payments of principal and interest for a set loan period of 10 to 30 years. These mortgages can typically be paid off early without penalties and are structured to guarantee full repayment.
Even if you have a fixed rate mortgage, your monthly payment may change if you have an impound account. Some lenders also collect monthly funds for real estate taxes, homeowners insurance, and mortgage insurance. These funds are deposited in the impound account and used to cover future property taxes and insurance premiums. If either changes, the borrower’s monthly payment will adjust, but with a fixed rate mortgage, the overall payments remain stable.
An “Interest Only” mortgage refers to a loan in which the monthly payment only covers the interest for a set period of time. This type of mortgage can be found on fixed-rate, adjustable-rate, or option ARMs. Once the interest-only period ends, the full amount of the debt must be repaid, leading to a significant increase in monthly payments. The longer the interest-only term, the larger the subsequent monthly payment will be, compared to if it had been fully amortized from the start.
A 30-year fixed-rate mortgage for a loan amount of $250,000 at 6% results in a monthly payment of $1,499. If the loan has a 5-year interest-only period, the initial monthly payment is $1,250, a savings of $249 per month or $2,987 per year. However, the monthly payment increases to $1,611 in year six, a $361 increase. Interest-only mortgages may be beneficial for those with fluctuating income, as they can make interest-only payments during tough times and pay off the principal with bonuses or increased income. While they save money initially, they end up being more expensive in the long run. However, most borrowers pay off their mortgages before the full 30 years
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