An adjustable rate mortgage(ARM): Should you opt for one?
Jun 28, 2009 Real Estate Properties
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Not too long ago, the Adjustable Rate Mortgage was the best way to buy a home. Especially if you were just getting started in your career and expected your income to increase. If you do not have the money to buy the perfect home, you could elect a Adjustable Rate Mortgage and have a much lower payment. An Adjustable Rate Mortgage interest rate can change every year based on market conditions. A Fixed rate mortgage is not dependent on market conditions and your payment would remain fixed.
There have been extended time periods where the adjustable rate mortgage was the best mortgage option. Borrowers had their home mortgage payments reduced year after year. In the long run, mortgage rates are cyclical. When the condition of the world financial markets change, adjustable rate mortgages can skyrocket.
The exact rate of interest for an Adjustable Rate Mortgage is determined by the index to which your mortgage is attached and the frequency at which your mortgage is allowed to adjust. These terms are defined in your mortgage note, a document you sign prior to the close of escrow. Your index is influenced by a number of factors like inflation, world market conditions and many other complex factors.
Keeping these various factors in mind, the rate of ARM is determined. This pre-determined rate of interest is used to calculate your payments for the rest of the fiscal year, though it can be revised at any time depending on the terms of your mortgage note. Depending on the credit cycle, it is seen that the interest rate for adjustable mortgages rises or falls with every passing year.
The pitfall is that this rate can increase substantially, and people may find it more and more difficult to make their payments and retain their property. For example, if the interest rate goes up by 1%, people, who earlier had to pay about $500 towards an adjustable rate mortgage payment, may have to shell out as much as $ 570-600 for the same home (depending on the mortgage details).
Any sudden increase in adjustable rate mortgage payments will make it more and more difficult for people to retain their property, especially if their income is either constant or shrinking due to wage cut amidst an increase in the interest payment on their property.
If there are good economic conditions and the credit cycle favors, you may benefit from a reduction in interest rates on your ARM. If you are unsure of how interest rates will behave, the only thing that you can do is opt for a fixed rate of mortgage. On fixed rate mortgages, the rate of interest is fixed at the time of taking the mortgage, and hence, is not dependant on market conditions beyond your control.
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