Contact a Qualified Loan Officer (800) 718-8906
Adjustable-rate mortgages (ARMs) can be appealing even with low interest rates. The key is to know how long you plan to stay in your home. This is crucial because every loan involves three main elements.
1) The amount you borrow;
2) The interest you pay, and
3) The length of the loan.
The longer the term of the loan, the higher the interest rate will be. Conversely, the shorter the term, the lower the interest rate will be.
Adjustable-rate mortgages (ARMs) can still be attractive even if interest rates are low. To determine if an ARM is right for you, it’s essential to have a clear idea of how long you plan to stay in your home. This timing is crucial for evaluating the benefits of an ARM because every loan has three key elements: 1) the amount you borrow, 2) the interest you pay, and 3) the length of the loan. The longer the term of the loan, the higher the interest rate will be. Conversely, the shorter the term, the lower the interest rate will be.
With an ARM you have a Fixed Interest Rate for a set period of time, from one year on up, explains Doug Winter, area manager for Wells Fargo Home Mortgage in Minneapolis. That fixed rate is guaranteed for an initial period, say one, three or five years. After that, the rate goes up or down. An ARM is based on 30 years, so the rate can fluctuate over the life of the loan. While the 30-year mortgage was once the standard approach to home buying, this is no longer the case. Winter says, “The whole philosophy of individuals buying homes has changed. It used to be that many people planned to stay in their home for 30 years, and their objective was to pay off the mortgage to actually own their own home.”
No matter what length of ARM you choose, make sure that it has a ceiling, he cautions. “With a government loan, it’s 1 percent a year with a 5-percent ceiling.” That means that your interest rate cannot go up more than 1 percent a year, no matter where interest rates go. It also means that your rate cannot go up more than 5 percent over the life of the loan. Let’s say you get an FHA one-year ARM at 5 percent and at the end of the year mortgage rates are at 7 percent. Your rate cannot go up more than 1 percent that year. If the rate stays the same, your ARM will stay the same. If the rate keeps climbing, your rate will climb too, but by no more than 1 percent a year. Once it hits its ceiling, it cannot go any higher. You can refinance if the rate gets uncomfortably high, but there are costs involved. Conversely, if mortgage rates fall, the rate on your ARM will move lower, also, but not by more than 1 percent a year.