There was a time when an Adjustable Rate Mortgage was a very bad thing. Lenders could change rates indiscriminately and the loans seemed little more than foreclosure vehicles. That time is over and now the Adjustable Rate Mortgage or ARM is making a comeback. These types of loans can be perfect for many types of buyers in many different market conditions.
With the latest interest rate hike by the Federal Reserve, 0.75 points, the largest hike in recent history, interest rates for traditional 15- and 30-year fixed rate mortgages have risen in accordance. This measure has been taken by the FED to help combat inflation, but it can make it tricky for a buyer to qualify for a mortgage.
Higher interest rates, like the over 6% we are seeing on traditional 30-year fixed rate loans, mean higher payments. If you are locked into a high rate, over the life of the loan, you can pay hundreds of thousands of dollars more than you would with a lower rate due to compound interest. This is where an adjustable rate can start to seem much more attractive.
With an adjustable rate mortgage, buyers typically see a lower introductory rate than the current market rate for a fixed-rate mortgage. This introductory rate is typically locked in for the introductory period which could be 3, 5, or 10 years. For many buyers, this introductory rate can mean the difference between being able to afford a home, and being priced out of the market. For other buyers, there can be buyer’s remorse if the market rate drops during the period you are locked into the introductory rate.
Once the introductory period is over, a rate can change to more accurately reflect current market conditions. This could be up or down, but there are now limits on how much a rate can adjust. These restrictions were not in place years ago when we had the foreclosure crisis. This is not to say that everyone is protected from foreclosure, just that there are limits in place that make it less likely.
For many people, the risk of a rate changing is too much stress and they feel better with a rate locked down. Many other people feel like they can handle the risk, or can refinance the loan if the conditions are not as favorable when their rate is set to adjust. There is always the risk that market rates will be higher and your rate will adjust upwards. Depending on the type of ARM loan you have, the rate can adjust multiple times over the remaining life of the loan. These adjustments can be devastating to anyone on a fixed income or who bought more house than they can afford after the adjustment.
For many people, the risk involved in an ARM loan is worth the reward of the introductory period of lower interest rates than the market rate. Arm loans are typically more popular when rates climb higher, and become much less popular when rates are low like they have been for the last few years. If you are ready to jump into the market, make sure you talk to your lender about the pros and cons of each type of loan so you make sure you have the right loan for your particular circumstances.