An adjustable-rate mortgage may be a way to save on your mortgage upfront. It’s important with any mortgage product, to understand the terms of the mortgage in order to make an educated decision. If you’re ready to speak with a professional about what is best for you, then contact us for free today!
Adjustable-Rate Mortgage (ARM) Explained
An adjustable-rate mortgage is a mortgage loan where the interest rate changes periodically, opposite of a typical fixed-rate mortgage. With a fixed-rate mortgage, the interest rate stays the same throughout the duration of the loan. Therefore, there are many advantages to an adjustable-rate mortgage, but there are also some qualities to be aware of.
How does an adjustable rate mortgage loan work?
There are many components to an adjustable-rate mortgage that play a huge part in what you will end up paying. Here is the ARM breakdown:
Initial Rate and Payment
One part of an ARM is the initial rate and payment. Upon closing on your home, you will be given an initial interest rate and monthly mortgage payment. With an adjustable-rate mortgage, this initial rate and payment will remain for only a short amount of time; typically, this time frame is between 1 month to 5 or more years. Remember, with this mortgage loan, the rate and payment can change greatly, or not so much, and may not be related to interest changes in the collective market. Consider asking your lender for the annual percentage rate (APR) to get a better estimate of the amount of change you will see in your rate. If the APR is greatly higher than your initial rate, then there may be a greater chance that your rate will be much higher when it adjusts. However, this is just an estimate from experience and cannot be factually proven.
Adjustment Period
The adjustment period is the period between your rate changes with an adjustable rate mortgage. This can vary from loan to loan; for some people, the interest rate and monthly mortgage payment can change monthly, quarterly, yearly, or even longer. For example, if you have a 3-year ARM, your interest rate and monthly payment can change once in three years as you have a 3-year adjustment period.
Interest-Rate Caps
Interest-rate caps are another important concept when you talk about ARMs. An interest rate cap limits the amount your interest rate can change (typically it is an increase). The two types of caps are:
- Periodic adjustment cap: limits the amount of change in interest rate for each adjustment period.
- Lifetime cap: limits the amount of change in interest rate over the entire life of the loan.
Understanding your initial interest rate and payment, how amortization works with a loan, what the adjustable period means, and interest-rate caps will help you better estimate how much you will pay over the entire life of your home loan. For more clarity on your specific loan, contact us today!
Advantages of an Adjustable Rate Mortgage (ARM)
There are many advantages to an adjustable-rate mortgage:
- Low payments initially- Before your rate adjusts (this could be months to years depending on your mortgage agreement), you will get the benefit of lower payments and a lower interest rate.
- Ability to be flexible- If you are expecting life changes soon, you could greatly benefit from an ARM. If you have a 5-year ARM and decide to move before those five years are up, then you can sell the house before having to pay the higher, adjusted interest rate.
Disadvantages of an Adjustable-Rate Mortgage (ARM)
There is one big disadvantage to consider with an adjustable-rate mortgage:
- Payments may increase- When the adjusted rate sets in, the rate may be higher than the initial rate you secured. The adjustment of the rate is uncontrollable and may not correlate with changes in the current market.
The truth is every mortgage product is beneficial for someone. The key is to determine what product is best for your needs. A loan officer is qualified to review your profile, your homebuying desires, and all the mortgage loan solutions available to you in order to formulate the best possible mortgage solution. Work with us today!
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