Fixed Rate Loans

Home mortgage loans are the norm in the United States while going in for purchase of new homes. Apart from the loan amount, the interest rate and the period of repayment are the other two dominant factors in this process. Interest rates are of two types. One is the fixed interest rate and the other is the variable interest rate.

When a borrower opts for a fixed rate loan, he would be paying the same amount of interest for the entire period of repayment, irrespective of variations in interest rates in the market. Let us take a possible scenario. A homeowner has taken a home mortgage loan for $100,000 in January 2003 for a repayment period of 30 years. Prior to June 2004, the United States Federal Reserve had kept its overnight interest rates pegged at 1%. Hence, the borrower would have obtained the loan for an effective annualized interest rate of around 2% to 3%. After June 2004, the Fed had increased its overnight call rate 17 times consequently till June 2006. The overnight call rate of the Fed now stands at 5.25%. As such, the home mortgage loans granted at present carry an effective interest rate in the range of 5.8% to 6.5%. Under the circumstances, the said borrower is not at all affected by the rise in interest rates. Fixed rate loan has been the wiser decision.

Compared to a person who had taken a fixed rate loan, a borrower opting for a variable interest rate January 2003 would be forced to pay a much-higher-than-planned interest rate now. The monthly installment amounts would increase proportionately and the borrower might find it difficult to meet the higher installment amounts.

Economists forecast that the Fed is most likely to keep the interest rates unchanged at 5.25% for all of 2007 and most part of 2008, in the absence of any drastic upheavals in the financial markets or the economy. Some economists are of the view that the interest rates might be cut in the latter half of 2007. As such, it would be prudent for a borrower going in for a mortgage loan now to opt for variable interest rates, in the hope that the rates would become lesser over the next few years. A person with a fixed rate loan might find out over passage of time that the interest rate being paid on the loan is higher than the interest rates prevailing in the market at that time.

However, all this is based purely on speculation. There is no guarantee that the interest rates would go down or remain stable over the next several years. The interest rates might even be hiked further. It would be up to the individual borrower to ponder over possible future market scenarios, his probable income in the coming years, the appreciation or depreciation of the property value, and other such related factors, before arriving at a decision about opting for a fixed rate loan or a variable rate loan.