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What Is An Adjustable Rate Mortgage?

by | Apr 4, 2018

An Adjustable Rate Mortgage (ARM) is a type of mortgage that’s beneficial for homeowners whose main objective is to have a low monthly payment. While 30 Year fixed rate mortgages already offer the perk of a low monthly payment, an ARM could offer a homeowner a slightly lower monthly payment amount. It sounds like a no brainer, right? Well, this low monthly payment comes with a catch as most good things do.

The Basics of an ARM

An ARM can give you a low interest rate that is fixed for a certain amount of time. This is called the “initial period” and is determined by the numbers in your mortgage. The naming convention of an ARM is made up of 2 numbers, separated by a slash and followed by “ARM” (x/x ARM). The first number will tell you how long the initial period is and the second number will tell you how often the interest rate will adjust. 5/1 ARMs are the most popular of the ARMs and this means that your initial period will last you 5 years. After the initial period is over, your interest rate will then adjust to whatever the market is at that moment once a year.

There is no set formula for the second number since your interest rate could adjust once a year, once every five years, or once every six months. It really depends on the type of loan you end up getting from your lender. You do not want to assume that you are walking away with a low monthly payment and your interest rate will adjust every six years. You could easily misunderstand and it really means the interest rate will adjust every six months. It is crucial that you are on the same page as your lender and you know the full terms of your loan.

The Benefits of an ARM

One of the greatest perks of an ARM could be the reason why people would not want one: the interest rate is only fixed for a limited amount of time. Many homeowners go into buying their first home with the mentality that they will keep the property forever, but the reality is that a homeowners’ first home is usually a starter home and they will move onto a bigger home after several years. You can either stay in your current mortgage and let the interest rate adjust since you’ve probably increased your salary over time and can now afford a higher monthly payment. You can also decide to sell your home and pay back the rest of the loan before the initial period is over and move onto a bigger home. If you want to stay in your current home, but do not want to deal with a payment that changes every so often, you can also refinance into a different mortgage that offers a fixed interest rate. The monthly payments will be higher, but at least you’ll have the same monthly payment amount for the entire term of your loan.

Great Candidates for an ARM

While an ARM doesn’t fit everyone’s lifestyles, there are certain types of people that could greatly benefit from one:

  • Military families
  • Professional athletes
  • Employees of major airline companies

“What is the Point of Buying a House if I’m Not Even Going to Be Living There for That Long?”

If you have always wanted to have the benefit of owning a home, but never thought you could because you were unable to commit, an ARM is a great option for you. As mentioned before, the best part of an ARM is the fixed low interest rate being in effect for a limited amount of time. You can take advantage of this by being a property owner and paying the lowest monthly payment amount. Since you are already in the habit of relocating, you will already have moved onto your next location by the time your initial period has come to an end. This means that there is no opportunity for your interest rate to adjust and there really is no “catch” to an ARM for you.

Are ARMs safe now?

Yes, ARMs are safe now. ARMs are still essentially the same product, but with implemented stricter regulations they are much safer than before. ARMs got a bad reputation during the housing crisis in 2007-2011 because many homeowners had no choice but to have a short sale on their home or foreclose on their property entirely. They weren’t able to make their monthly mortgage payments because they no longer could afford them. This is because people were lying on applications about their income and lenders were giving out loans that homeowners weren’t able to afford. In addition to this, lenders were giving out ARMs because the homeowner just wanted a low monthly payment, not realizing that after the initial period was over that the interest rate would then adjust to whatever the market was at the time. All of these actions combined caused companies to have massive layoffs and so many people unfortunately lost their jobs. They were no longer earning money and they were unable to pay their new monthly payment amount, which was significantly more than what they had been paying previously. After home values plummeted, homeowners found themselves “underwater” or “upside down” on their mortgages, meaning that they now owed more than the home was worth. Feeling down on their luck, homeowners opted to leave their property to the banks. Lenders are now much more transparent with their clients and the entire industry is now carefully monitored so we can never have this happen again.

Overall Thoughts

ARMs are a great product for people who find themselves having to move around often. This could be due to their career or maybe they just want to live all over the world. Having a mortgage that best fits your lifestyle will benefit you the most. By taking advantage of the temporary fixed interest and the very low mortgage payment that comes with it, you’re getting the best value for your home. You not only get to own property and all the benefits that come with it. There are perks that come with being a homeowner such as the opportunity to increase your credit score by paying on time every month, your privacy, the ability to write off your mortgage payment and your property taxes, and the tax return that comes with the write offs when tax season rolls around. If you found yourself signing up for an ARM and later realized that it isn’t the best fit for you, you are not required to stay in your loan until you’ve paid it off. You can refinance into a different mortgage that better suits you.

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