The two most common types of fixed-rate mortgage loans have to do with the “term length” of the mortgage. These are the 30-year and 15-year loans. The key differences between these two loans are, obviously, the duration of the loan (30 years vs. 15 years) and the interest rate. The interest rate on a 30-year fixed mortgage will be higher than the rate for a 15-year fixed mortgage ― this is because the lender is assuming the risk for a longer period of time. The mortgage lender knows they will not recapture the principal (the original loan balance, separate from the interest) until later on in the loan, and they cannot see into the future with finite accuracy.
In some areas where homebuyers are encountering difficulties due to the high cost of real estate, 40-year fixed mortgages are also becoming more popular.
Other variations of fixed-rate mortgages are explained below.
Interest-Only Fixed-Rate Mortgage
With this type of fixed mortgage, the borrower pays only interest for the first 5 to 7 years of the loan. The borrower is free to make additional payments towards the principal at any time during the loan period. At the end of the initial term, the borrower will begin making payments of interest and principal. This type of loan is best suited for homebuyers who expect their income to grow in the coming years, or for those looking to invest and free-up capital to improve the marketability of a home for resale (within the 5 – 7 year window).
Convertible Mortgage
With a convertible mortgage loan, also known as a “Reduction Option Loan,” the borrower has the opportunity to lock-in a fixed rate at some point in the future (limited window), without having to go through the expense of refinancing. This is also a popular feature in adjustable-rate mortgages.
Balloon Mortgage
This type of fixed mortgage has a shorter loan term (usually 5 to 7 years total) and a lower rate of interest. The monthly payments are typically calculated based on a 30-year fixed loan, with the balance due at the end of the 5 – 7 year term. At the end of the loan term, the borrower must make a “balloon payment” of the remaining balance of the loan. Note that some balloon mortgages can be converted into long-term fixed-rate mortgages at the end of the loan term.
Bi-Weekly Fixed-Rate Mortgage
With this type of fixed mortgage, the borrower sends in their mortgage payments every two weeks (rather than once a month). Each bi-weekly payment is equal to ½ of the traditional monthly payment. Therefore, instead of making 12 mortgage payments during the year, he/she is making 26 payments ― and in effect, they are paying one extra month of mortgage payment per year. This means that the borrower saves a significant amount of interest over the course of the loan.