An adjustable rate mortgage (ARM) is a type of home loan with an initially lower interest rate than fixed-rate counterparts. After the introductory period has elapsed, however, the loan could adjust to either a higher or lower rate depending on the lender’s terms.
For many first-time homeowners, an adjustable-rate mortgage (ARM) may be a viable option. This is because these borrowers tend to have less risk aversion than older people and can usually afford the monthly payments on an ARM even if the rate adjusts higher after the introductory rate period ends.
These loans can be particularly attractive to people who plan to relocate soon after purchasing a home. If you anticipate selling the house before the introductory period ends, an adjustable-rate mortgage could provide a convenient way to reduce monthly payments during the time that your house is on the market.
ARMs are especially popular with younger families, who typically have more savings to put towards their down payment and monthly mortgage payments. These borrowers tend to refinance or sell their home before the introductory rate ends, helping them avoid an expensive rate increase after it ends.
The introductory interest rate on an adjustable-rate mortgage (ARM) is typically lower than the fully indexed rate. This difference, known as the margin, must then be added to your index in order to get your fully indexed ARM rate.
This margin can vary between lenders, but most charge at least 3% or 5%.
Borrowers concerned about interest rate adjustments after the introductory period is over can rest assured knowing that most adjustable-rate mortgages have an initial adjustment cap which limits how much your rate can change during the first year or so. Some ARMs also feature a lifetime adjustment cap which prevents your rate from rising beyond a specific amount over the loan’s life – typically 2%).
Adjustable-rate mortgages come with a range of terms and structures, so it’s essential to comprehend them all. Furthermore, having an idea of how long you plan on owning your home can help you make an informed decision about whether an adjustable-rate mortgage is suitable for you.
These mortgages tend to be more complicated than fixed-rate ones, due to their additional indexes, margins, caps and other elements. This complexity may make them harder to comprehend and plan your financial future if you’re unfamiliar with the mortgage industry.
Additionally, ARMs with variable rate components may fluctuate on a regular basis, making budgeting for an ARM more challenging and potentially leading to issues if interest rates change abruptly.
Some ARMs offer interest-only or minimum payment options that let you pay off the interest only while making the same monthly payment as before. Although these are more cost-effective than fixed rate mortgages, you’ll still end up paying interest on the entire loan instead of just for interest portion.