A fixed-rate mortgage (FRM) is a type of mortgage that is characterized by the fact that it possesses a fixed interest rate. This means that the interest rate is set at the beginning of the loan and remains the same throughout the loan term; in most other types of mortgages, the interest rate can either be adjusted or is tied to a specific index to allow rates to “float” with the market. Fixed-rate mortgages are sometimes known colloquially as “vanilla wafer” mortgages.
Advantages and Disadvantages vs. Other Mortgage Types
Fixed-rate mortgages provide a level of predictability for the borrower that adjustable-rate mortgages do not, in that the payment size is fixed. Regardless of changes to the market over a term that may span as much as three decades, both the length of the term and the size of each payment (including interest) are fixed. These same benefits make fixed-rate mortgages more risk for the lending organization, which means that fixed-rate mortgages often start with a higher rate than adjustable-rate mortgages.
Though the logistics of how adjustable-rate and fixed-rate mortgages function are fairly consistent across the world, different types of mortgages are more popular and more common in different regions. Fixed-rate mortgages are traditional and common in the United States, but in many other parts of the world they are less popular. Many countries offer mortgages that are fixed-rate over a certain period of time, but become adjustable-rate a certain number of years into the term. In Australia, for example, introductory rate or “honeymoon” mortgages are common, which offer low rates as a promotion for a short period. Often this promotional period is as short as a year. Some of these promotional discounts are a fixed reduction in the interest rate of an adjustable-rate mortgage, in which case the mortgage is not a fixed-rate mortgage at all, but others offer a discounted fixed rate for this first year, after which the rate rises and becomes adjustable. Although these mortgages are less predictable for the borrower, they are often combined with characteristics of a flexible mortgage (commonly known as an Australian mortgage). Australian mortgages often allow the borrower to make overpayments to reduce interest paid, and then to redraw on any previous overpayments. Combined with fixed-rate promotional periods, these mortgages encourage early payment to the best of the borrower’s ability and shortening of the borrowing term.
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