Mortgage rates top 7%. Is a fixed or an adjustable rate the best bet right now?

Terry Collins, USA TODAY
·4 min read

Mortgage interest rates have eclipsed 7% for the first time in more than two decades, likely leaving prospective homeowners asking themselves how much home they can afford and what's the best way to finance it.

The rate has more than doubled since the start of the year and "now boxes out 24 million households" from getting a $400,000 mortgage, Eric Finnigan, a vice president for John Burns Real Estate Consulting, said in a tweet.

"That means the pool of potential borrowers has shrunk by 47% (!!) since December (2021)," Finnigan's tweet continued.

George Ratiu, manager of economic research for Realtor.com, tweeted Thursday that with the median home price now at about $427,000, anyone now buying a home "will see a whopping $1000 increase," in monthly mortgage payments compared to earlier this year.

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This likely means tough times ahead for would-be homebuyers as along with the amount financed and the interest rate, the mortgage's term directly affects the monthly payment.

The most common options are fixed-rate and adjustable-rate mortgages. Here's what buyers need to know about both.

What is a mortgage?

In short, a mortgage is a loan that allows a homebuyer to cover the cost of a home.

Mortgages are usually repaid monthly over 15 or 30 years and include the principal (the home's price minus your down payment) plus interest, said Realtor.com.

A monthly mortgage payment may also include money for property taxes and home insurance premiums, Realtor.com said. O'Donnell said that money is placed in an escrow account that your lender will use to pay these bills.

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What's a fixed-rate mortgage?

A fixed-rate mortgage is a home loan option with a specific interest rate for the entire term of the loan, according to Rocket Mortgage.

The interest rate on the mortgage will not change, and the borrower's monthly payment remain the same.

"Usually, when interest rates are low, it makes sense to lock into a fixed-rate mortgage," said Anthony Graziano, CEO of Florida-based Integra Realty Resources.

A fixed-rate mortgage can have a term of 30 or 15 years or even a custom term. Rocket Mortgage said that a 30-year fixed-rate mortgage is America's most popular option.

"Ninety-nine percent of my clientele use 30-year fixed-rate mortgages," said Kristina O'Donnell, a longtime real estate agent in the Philadelphia area. "They know what they are going to pay and for how long. Many prefer to have their payments stretched out over a long period of time."

A 15-year fixed-rate mortgage requires a higher monthly mortgage payment than a 30-year term. A 15-year fixed-rate mortgage usually features a lower interest rate, allowing borrowers to pay off their mortgage in half the time and save thousands of dollars over the life of the loan.

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What is the 30-year mortgage rate right now?

On Thursday the current average rate for a 30-year fixed mortgage is 7.32%, increasing 15 basis points over the last seven days, according to Bankrate.com.

What is an adjustable-rate mortgage?

An adjustable-rate mortgage is a home loan with an interest rate that can fluctuate over time.

Adjustable-rate mortgages typically offer a lower introductory interest rate than fixed-rate mortgages, but your monthly payment can change after an initial period, usually three, five, seven or 10 years, experts say.

When that introductory period ends, lenders adjust the interest rate at predetermined periods by adding the index interest rate – which reflects general market conditions – and the margin, a number set by the lender, according to the Consumer Financial Protection Bureau.

The index changes typically once every six months.

Graziano said that if the index is lower than when the borrower received the loan, their rate and mortgage payment will decrease. But if the index is higher, the interest rate and mortgage payment will increase.

Maurer said those who opt for an adjustable-rate mortgage usually plan to stay in their home a few years and want to pay the loan off before the low introductory rates expire.

"If interest rates go down, (adjustable-rate mortgages) can become less expensive," Rocket Mortgage said. "However, (adjustable-rate mortgages) can also become more expensive if rates go up."

This article originally appeared on USA TODAY: Here's the difference between a fixed-rate and adjusted-rate mortgage

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