How Fixed-Rate Loans Work
Fixed-rate loans come in a variety of terms. The thirty-year loan is the most common, but they also come in fifteen-year, ten-year, and twenty-year lengths. Lately, they've also been issued in forty- year and even fifty-year lengths in areas of the country with extremely high-priced housing.
When you agree to a fixed-rate loan, your payments will not change throughout the life of the loan. They offer a borrower a lot of predictability but also no flexibility if rates fall significantly. If you got a fixed-rate mortgage at 7 percent, you'll have to refinance (apply for a new loan) if rates fall lower.
Some lenders steer customers to certain fixed-rate products because it serves their purposes. If they're talking only fifteen- and thirty-year fixed loans, push them to disclose their offerings for ten- and twenty-year loans. If you can afford it and it meets your financial goals, taking a shorter-term fixed-rate loan than what's being offered can be a good option for you.
Plus, all that stability comes with a trade-off. Rates on fixed rate loans are usually higher than starting rates on adjustable-rate loan products (discussed in Chapter 14).
Again, amortization is the gradual payment of a mortgage loan in regular payments over a specified period of time. Lenders typically front-load their fee into the first payments of a loan. In fixed-rate loan products, a borrower's payment is mostly interest at the start, decreasing in small amounts over the life of the loan.
As the loan payments progress, principal (the actual amount borrowed) is paid in increasing amounts until payment is finished. Interest charges over the life of the loan are in most cases tax deductible, a key driver of home ownership.
Over the past twenty-five years, mortgage interest rates went from the high teens to nearly as low as 4 percent just before the housing bubble began to burst in 2004. Particularly before the terrorist attacks of September 11, 2001, the economy was healthy, interest rates were low, and consumers were working for companies that were still hiring. All of these factors continued to propel housing values up nationwide. With those values holding and growing, lenders felt confident that they could lend money to borrowers who weren't necessarily at the top of the heap credit-wise. With values rising, borrowers were less likely to default.
But after the terrorist attacks, the environment began to change. The economy stumbled, and rates began to slowly creep up. Nearly 23 percent of all mortgages taken out in 2005 were interest-only ARMs, and more than 8 percent were payment-option ARMs, according to First American Loan-Performance. In California alone, 34 percent of all new mortgages were interest-only.
Eventually, people started to recognize how nice it felt to have a low mortgage rate with no chance of adjustment until payoff. A frenetic rush to convert adjustable-rate mortgages and short-term balloon mortgages to fixed-rate products ensued.
Even though most people go with a thirty-year fixed-rate loan if they go the fixed-rate route, you should see if you can afford the higher payment that goes with a fifteen-year or twenty-year loan.
Only in 2007 would the other side of the story come to light — examples of mortgage fraud. Federal officials saw reports of suspected mortgage fraud from federally regulated lenders double between 2003 and 2006. In 2005, it was estimated that mortgage fraud on a nationwide level totaled from $1 billion to $6 billion.
At publication, only the most creditworthy customers were being welcomed back into the fixed-rate fold. Those with severe credit problems aggravated by resetting adjustable-rate loans were being flung from their homes.
