3 Reasons Why Homebuyers Prefer Fixed Rate Mortgages
You have lots and lots of decisions to make as a current or prospective homeowner. Will you live in the city or somewhere more rural? Is a single-family home the best style for you and your family's budget and needs, or do you prefer the accoutrements that come with condo life? Are you interested in something that is move-in ready, or perhaps you're considering a fixer-upper?
And that's just the tip of the iceberg. However, when it comes to interest rates, there is one choice that is overwhelming in terms of popularity: fixed-rate mortgages. More often than not, when asked which they'd prefer, people select it over variable. Indeed, based on the most recent statistics available from government-sponsored enterprise Freddie Mac, 90% of homebuyers pick a fixed-rate loan.
It raises an interesting question, though: Why? What is it about FRMs that makes them the odds-on favorite to be selected over variable?
Here are three reasons industry experts believe fixed-rate mortgages are so consistently well-received:
1. Rates stay the same
It's said that the only constant in life is change; in short, it's the one thing that is guaranteed. But a rare exception to that truism are FRMs. No matter what, the interest rate you pick is locked in for the life of the loan term, which is usually 30 years.
There is great security and comfort in this fact. When the mortgage payment becomes due each month, you know exactly how much you'll spend on principal and interest. This predictability can help you with planning and budgeting for the week, month, or year.
The interest rate environment is subject to change, primarily due to market dynamics of the moment, the state of the U.S. economy and actions by the Federal Reserve. But for several years now, interest rates have remained solidly in affordable territory.
The numbers prove as much. Based on archived data maintained by Freddie Mac, 30-year FRMs never edged above 5% in the entirety of 2019. In fact, they stayed well below that figure for all 12 months, topping out at 4.51% the very first week of the year. They remained in the 4% territory or lower throughout 2018 and 2017 as well.
The same has been true in 2020. While everyone can attest to this being an unusual year with lots of changes, FRMs are in record-low territory, now hovering around 3% for the week ending June 4.
In short, people like to pay less, and generally speaking, FRMs are highly affordable given the fact rates have been low for so long.
This one just may be the main reason as to why FRMs are the overwhelming favorite in comparison to variable. People like the freedom of options, which may explain why homeownership is as popular as ever. In fact, according to a recent survey from the National Association of Realtors, which was conducted in May, nearly 60% of respondents considered buying real estate an "essential" service.
They not only expect to have the freedom to purchase a house at a time that is right for them, but appreciate the ability to pay down their mortgage in a manner that makes sense to them. FRMs offer this kind of flexibility, noted Sean Becketti, former vice president chief economist at Freddie Mac.
"Thirty-year fixed-rate loans are generally prepayable at any time without penalty," Becketti explained. " If the homeowner chooses to pay off the loan before maturity to refinance or sell the home, the homeowner can do so without paying an early prepayment fee."
He went on to note that this option is fairly exclusive to the U.S., as in other parts of the world, it's not unusual to be docked for paying off a loan ahead of schedule.
Another way in which FRMs increase flexibility is this structure can be used in many different loan types. As The Balance noted, they can be leveraged for conventional loans - which are not backed by the government - and also those guaranteed by the Federal Housing Authority or Department of Veterans Affairs for VA loans.
Additionally, while 30-year FRMs are the most common length homebuyers choose, 15 years if also available to them if they so choose. While monthly payments tend to run higher, you wind up spending less on interest overall because the term is significantly shorter. The rate itself is often lower than it is with the long-term option as well.
None of this is to say that variable rates aren't good. They have several positives to them as well. Nor is it to say that fixed rates don't have certain disadvantages. But these are some of the main reasons why FRMs are a smart choice and why so many pick them when given the choice.
For more information on FRMs or other aspects of homeownership, please contact RMS today.