What Are Adjustable-Rate Mortgages (ARMs)?
An adjustable-rate mortgage, or ARM, is a home loan that allows you to lock into a lower interest rate for the first few years of the loan, depending on your specific term, after which your rate is periodically adjusted.
Adjustable-rate mortgages fall into two categories – conforming and non-conforming.
Conforming ARMs are home loans that conform to and fall under FNMA (Fannie Mae) and FHLMC (Freddie Mac) guidelines. Non-conforming ARM jumbo loans are for buyers seeking to purchase more expensive homes that require higher loan amounts not covered by conforming loan limits.
An adjustable-rate loan will typically start with an initial interest rate that’s lower than the current market rate for a comparable fixed-rate loan. As time progresses into the life of an ARM loan, the rate will adjust, based on contract terms, market rates, indexes or buydown points. While the rate will typically go up after the initial loan term expires, it can also occasionally go lower.
You can use an ARM to finance a primary residence, secondary home, or investment property with one-to-four units. Usually, adjustable-rate mortgages are most attractive to short-term homebuyers who expect to resell the home before higher interest rates affect the loan. ARMs are also very popular among homeowners who plan to fully pay off their loans early while the interest rate is at its lowest.
How Are Adjustable-Rate Mortgages Different from Fixed-Rate Loans?
Fixed-rate mortgages charge a set interest rate that won’t change over the life of the loan. As a result, the biggest difference between these two loan types is that adjustable-rate mortgages have changing interest rates, while fixed-rate mortgages do not.
What Are the Benefits of Adjustable-Rate Mortgages?
If you’re interested in an adjustable-rate loan, you’ll likely want to know about its advantages. Here are some of the benefits of adjustable-rate loans:
- Initial payments are lower: Typically, adjustable-rate mortgages have lower interest rates early on in their terms. As a result, your loan payments will usually be lower than a fixed-rate loan for the first few years. You can even find adjustable-rate terms with the interest rate locked for a set number of years, meaning those who plan to resell a home quickly can benefit from these loans.
- Payments can become lower over time: When interest rates go down and cause the index your loan is connected with to decline, your monthly payments could decrease as well. Unlike fixed-rate mortgages, adjustable-rate mortgages can give homeowners lower monthly rates, helping homeowners pay off their loans faster or save more money every month.
- Flexibility for homeowners: Since adjustable-rate mortgages usually come with lower monthly payments during the first few years, they give homeowners more flexibility. For example, if a homebuyer plans to sell their house shortly after the purchase, an ARM may be an option, as the initial interest rate and monthly payments may be lower than if they chose a fixed-rate mortgage.
What are some Tradeoffs of Adjustable-Rate Loans?
If you’re interested in an adjustable-rate loan, you’ll also need to know the risks. Here are some of the tradeoffs of adjustable-rate loans:
- Your interest rate may change over time: When you first get your adjustable-rate loan, the interest rate may be lower than a fixed-rate mortgage. However, as time progresses, you take the chance that the interest rate may increase over the life of your loan. Because this rate can change at any time, you won’t be able to calculate in advance how much total interest you’ll pay ahead of time.
- Your monthly payments may increase over time: If interest rates happen to go up, your monthly payments may go up, too. In that case, you’ll need to be prepared to budget for any changes to your monthly payment and ensure you can afford the increased payments.
- There’s a chance you may not be able to refinance: There’s a high probability that you won’t be able to refinance before your interest rate and monthly payments increase, especially if the value of your home goes down or your financial situation changes, such as with a job loss. In which case, you might not qualify for refinancing.
Choose BayCoast Mortgage Company for Your Next Adjustable-Rate Mortgage
Choose BayCoast Mortgage Company for an adjustable-rate mortgage today! We’re proud to offer our customers a variety of additional loan options, including fixed-rate loans, government loans and jumbo loans. Please feel free to contact us with any questions, or visit us at a location near you.