An Adjustable Rate Mortgage (ARM) is a type of home loan where the interest rate is not fixed for the entire term of the loan, unlike a Fixed Rate Mortgage where the interest rate remains constant. ARM loans have several potential benefits, but they also come with certain risks. Here are some of the benefits of an ARM:
- Lower Initial Interest Rate: One of the primary advantages of an ARM is that it typically offers a lower initial interest rate compared to a fixed-rate mortgage. This lower rate can result in lower monthly mortgage payments, making homeownership more affordable, especially in the early years of the loan.
- Potential for Lower Overall Interest Costs: If interest rates remain stable or decrease over the life of the loan, an ARM borrower could end up paying less in total interest compared to a fixed-rate mortgage.
- Short-Term Savings: If you don’t plan on staying in your home for a long time, an ARM can be an attractive option because the initial fixed-rate period (usually 5, 7, or 10 years) offers predictability during the time you expect to live in the home.
- Future Rate Drops: Some ARM loans have rate adjustment caps and lifetime rate caps, which limit how much and how frequently the interest rate can increase. If interest rates decrease in the future, your ARM interest rate could go down, resulting in even lower monthly payments.
- Flexibility: ARM loans come in various forms, allowing borrowers to choose the one that best suits their financial situation and plans. For example, you can opt for a 5/1 ARM, 7/1 ARM, or 10/1 ARM, depending on your timeframe for staying in the home.
However, it’s essential to consider the potential risks associated with ARM loans:
- Interest Rate Uncertainty: The primary drawback of an ARM is the uncertainty associated with interest rate adjustments. If interest rates rise significantly, your monthly payments can increase, potentially causing financial strain.
- Payment Shock: When the initial fixed-rate period ends, and the ARM starts adjusting, you might experience “payment shock” with significantly higher monthly payments.
- Refinancing Costs: If you decide to refinance your ARM to a fixed-rate mortgage later, you may incur additional costs in terms of fees and closing costs.
- Market Fluctuations: The long-term cost savings of an ARM depend on future interest rate movements. Predicting the direction of interest rates can be challenging.
Before choosing an ARM, carefully assess your financial situation, your future plans, and your risk tolerance. Chat with one of our loan officers today to discuss what produce would be best for your specific scenario!