Adjustable Rate Mortgage
What exactly is an Adjustable Rate Mortgage?
Unlike a fixed rate mortgage where the interest rate remains the same for the life of the loan, the interest rate on an adjustable rate mortgage (ARM) can change periodically. Typically, the initial interest rate on an ARM is lower than the interest rate on a fixed rate mortgage.
There are two different periods to an ARM. One is the fixed period and the other is the adjusted period. During the fixed period, the interest rate does not change. Common fixed periods are 3, 5, 7 and 10 years. After the fixed period, the interest rate will change based on the underlying benchmark used. The interest rate on an ARM is capped. Which means, there is a limit on how much the interest rate can increase.
An Adjustable rate mortgage may be a good choice if you:
Plan on moving before the fixed-rate period ends.
Expect your income to increase in the future.
Think interest rates are going to go down.
What are the risks of getting an Adjustable Rate Mortgage?
Rising monthly payments and payment shock.
Pre-payment penalty .
Future interest rates increase – You can refinance your mortgage when the ARM enters the variable rate period but, interest rates in 3, 5 or 10 years may be higher than the current interest rate. You will also need to qualify for the refinance. If your income, debt or credit score has changed, you may have challenges refinancing.