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Adjustable rate mortgage
(ARM)
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For certain people, an
ARM is the right mortgage. It allows you to fix the interest rate for
the length of time that you plan to hold the loan without paying extra
for interest rate protection you don't need. |
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Advantages |
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A lower initial interest rate |
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Since the lender is taking
less risk that interest rates will go up and they won't be able to raise
your rate, they offer lower initial interest rates. This means a lower
monthly payment, too. |
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The initial interest rate
on an ARM is fixed. The main difference among ARMs is the length of this
fixed period. The shorter the initial fixed period, the lower your initial
rate will be. |
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You can borrow more |
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If the lender is taking
less risk, they are willing to loan you more money. So, if you are set
on buying your dream home and you can barely afford it, this can be very
helpful. |
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Disadvantages |
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Your interest rate might go up |
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If interest rates go up,
and you stay in the house longer than expected, you may have to face larger
payments. |
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So, if you plan to be
in the house for 5 years and get a loan where the rate is fixed for the
first 5 years but you end up holding the mortgage for 10 years, your monthly
payments will probably rise. |
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Common types of ARMs |
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10/1 ARM |
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A loan with fixed interest
rate and monthly payments for the first 10 years, and then an annually
adjustable interest rate for the remaining 20 years. |
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7/1 ARM |
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A loan with fixed interest
rate and monthly payments for the first 7 years, and then an annually
adjustable interest rate for the remaining 23 years. |
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5/1 ARM |
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A loan with fixed interest
rate and monthly payments for the first 5 years, and then an annually
adjustable interest rate for the remaining 25 years. |
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3/1 ARM |
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A loan with fixed interest
rate and monthly payments for the first 3 years, and then an annually
adjustable interest rate for the remaining 27 years. |
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1 year ARM |
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A 30 year loan with an
interest rate and monthly payments that adjust annually. |
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6 month ARM |
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A 30 year loan with an
interest rate and monthly payments that adjust every 6 months. |
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Example: $100,000 loan
that will be paid off in 7 years. |
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