What is the difference between fixed-rate and adjustable-rate mortgages?

The correct answer highlights the fundamental distinction between fixed-rate and adjustable-rate mortgages based on how their interest rates behave over the course of the loan. A fixed-rate mortgage offers a consistent interest rate for the entirety of the loan term. This stability allows borrowers to plan their monthly payments precisely, as they will not be impacted by fluctuations in prevailing interest rates over time.

In contrast, adjustable-rate mortgages (ARMs) have interest rates that can change at specified intervals based on an underlying index. This means that the monthly payments can fluctuate, often starting lower than a fixed-rate mortgage but potentially rising over time, which can lead to increased financial uncertainty for the borrower.

Understanding this difference is crucial for borrowers when considering which mortgage product best meets their financial situation and risk tolerance. It allows them to weigh the predictability of payments with a fixed-rate mortgage against the potential cost savings of initially lower rates of an adjustable-rate mortgage, while being aware of the risks associated with possible future rate increases.