Adjustable Rate Mortgages 101
When you decide to buy a house it is of utmost importance to get the right mortgage. This is not always the one with the lowest interest rates. One mortgage might have higher fees, bigger costs for early repayment; some lenders are more flexible than others etc.
There are a number of types of mortgages including a fixed rate mortgage or an adjustable rate mortgage. This article will take you through the basics of an adjustable rate mortgages.
How adjustable rate mortgages work
Adjustable rate mortgages are more complex than the fixed rate mortgage; this is due to the fact that they are influenced by interest rates. Hence it is defined as the mortgage on which the interest rate is not fixed for the entire life of the loan. It is always important to know that intentions do not always equal reality when you decide to use ARM. Adjustable rate mortgage is a form of mortgage that could leave you in a whole lot of trouble or even worse. There are several types of adjustable rate mortgages which are mostly defined by the time they last or time they might start evolving which will mean more money you might lose in the process.
How often does adjustable rate mortgage adjust?
We have about three types of adjustable rate mortgage namely Hybrid ARMs; interest only ARMs, and Payment-option ARMs. A conventional ARM is devised in a way that it would adjust almost every year, but we do have some that are designed to adjust in six months, one year and two years depending on your choice. Most popular hybrid ARMs are those that are five years, these would carry a fixed rate for a period of five years, then they will adjust every year during the course of the loan. The other common hybrid is the three year ARM which has a fixed rate for the first three years then it would start being adjusted after three years during the life of the loan.
Adjustable rate mortgage interest rate caps.
Make sure that when you sign for an ARM it has caps and limits. These help you know how far your interest might rise to and this would give a better idea on whether to take the loan or not. Interim or periodic caps are the ones that would dictate the variation of the interest rate within the life of the loan, with each adjustment and lifetime caps they will specify how high the rate can go over the period of the loan. There are three types of caps to take note of;
Initial: this is the amount the rate can change to at a time the first adjustment begins, thus; this would be at the 5 year mark if it’s a five year hybrid.
Periodic; this is change that happens after the initial period, so this would be the interest that happens after each and every year, for the 5/1 hybrid.
Lifetime; this is the amount rate can change during the life of the loan, thus; amount would not by any chance drop below or above the initial amount.
Why choose adjustable rate mortgage interest rate
Most home owners choose this kind of mortgage because it has a lower initial payment and then they would refinance the loan when the fixed period ends. At this period one might actually want to sell the house in order to get his money back with a little interest. The other reason would be to make a short investment if they don’t plan to keep the house for more than three to five years. Always keep in mind that adjustable rate mortgage can be a risk as they tend to change sharply, which might leave you in a difficult financial position.