Fixed-rate loans are a loans with an interest rate that does not change. The opposite of a fixed interest loan is an adjustable-rate loan, which means that the interest rate changes along with the current interest rate set forth by the Federal Reserve. A fixed interest loan keeps the same interest rate for the entire life of the loan, while a loan with an adjustable rate stays fixed for only part of the loan, usually about three to five years. There are benefits and advantages of both types of loans, but we will just focus on loans with a fixed interest rate for now.
Basic facts about fixed rate loans
One of the first things consumers should understand is that about 75 percent of all mortgages have a fixed rate. This is because most people prefer the certainty of knowing exactly how much their mortgage is going to be each month. Also remember that locking in an interest rate while you have good credit is the best way to go. Credit rating, job history and stability, and income to debt ratio are all important factors in getting the best rate for a fixed rate loan.
The rate never changes
The most obvious benefit to a loan with a fixed interest rate is the fact that the rate will never change. However, this can also be a disadvantage. If the loan will last a long time, like a 30-year mortgage, then having a fixed rate can be good sometimes and bad at other times. For example, when the economy is down and interest rates are low, it is the best time to lock in a low fixed rate for a 30-year mortgage. However, if interest rates are rather high, then it might not be a bad idea to go for an adjustable rate mortgage. A fixed interest loan is much less of a gamble than an adjustable rate loan is because the interest rate never changes, but sometimes the gamble pays off in the long run because interest rates may drop so low that the fixed rate you are paying is much higher than the current rate.
For consumers who do lock in a fixed rate that ends up being higher than the current interest rate, refinancing is always an option. This will allow them to get the new lower interest rate.
There are also a couple of other disadvantages to a loan with a fixed interest rate. The interest rate will usually be a bit higher than the rate offered for a loan with an adjustable rate. On average, the fixed rate loan will have a rate that is a half percent to .1 percent higher than the beginning rate offered through the adjustable rate loan. This is because lenders are assuming that the rates will go up over time, so they want to start borrowers out at a slightly higher rate since no change is built into the loan.
The other disadvantage only applies to borrowers with poor credit history. Consumers who are currently trying to repair their credit will usually opt for an adjustable rate because the payments are lower for the initial three to five years of the loan period.