Should you consider an adjustable-rate mortgage?

Posted by  on Jun 29, 2011

Many borrowers have been reluctant to take on adjustable-rate mortgages (ARMs) as the housing market has slumped. But some of the lowest mortgage rates in history are causing more people to take a look at ARMs. During the first quarter of 2011, about 12 percent of new mortgages were ARMs, according to the New York Times.

Scary ARM stories

Getting an ARM is a scary proposition to some borrowers. There are so many stories of homeowners wih ARMs who have found themselves unable to make monthly mortgage payments after the interest rate reset. In many cases people who had planned to refinance ARMs were unable to do so when the housing market tanked.

Now, more borrowers are starting to reconsider these loans, which carry very low rates. For example, the mortgage rate for a 5/1 ARM in June 2011 was about 3%. A 5/1 ARM supplies a fixed rate for it first five years; then, the interest rate adjusts annually. The interest rate change is based on an index, such as the LIBOR. If the index goes up, your ARM adjusts upward, increasing monthly mortgage payments. On the other hand, when the index drops, you get a lower mortgage rate without having to refinance.

So should you take advantage of current adjustable mortgage rates and refinance into an ARM? Here are some things to consider:

  • Your initial interest rate with an ARM would be lower than with a fixed-rate mortgage. That low mortgage rate would buy you a few years of low payments, allowing more income to go toward other expenses.
  • If interest rates jump significantly, you could end up paying a whole lot more interest than with a fixed-rate mortgage.
  • Are you planning to move soon? An ARM could give you the low payments you need during the time you live in your house. But keep in mind that a lot of borrowers with ARMs also had planned to move before the housing bubble burst. Many of these people found themselves unable to move or refinance into a fixed-rate mortgage.
  • Do you have plans to refinance before the fixed-rate period ends? You would have the option of refinancing into a fixed-rate mortgage to get stable payments.
  • There are different hybrid mortgages available, such as 3/1 ARMs and 7/1 ARMs. Take time to research what is available so that you can compare the different loan products.

What about fixed-rate mortgages?

Finally, don't rule out getting a fixed-rate mortgage. Shop around to get mortgage rates from several mortgage lenders. While you may believe that you can handle higher payments on an ARM once the mortgage rate adjusts, the fact is that you just can't predict what might happen with your future income. So ultimately the decision to get an ARM is going to depend a lot on just how much risk you can stomach.


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