If you are a home buyer right now, then you already know the challenges that you are facing. With high home prices, record-level inflation, an economic recession, and now rapidly rising mortgage interest rates, there are various challenges to contend with. However, these same factors also mean that you will likely face less competition from other buyers in your local market. Therefore, perhaps with the right strategy, this may be a great time to find your home. One common strategy in the current market is opting for an adjustable-rate mortgage. Of course, there are various things to consider when contemplating an adjustable-rate mortgage. We discuss some advantages and disadvantages below.
What is an adjustable-rate mortgage?
Also referred to as an “ARM”, an adjustable-rate mortgage allows buyers to take advantage of a low fixed-rate at the beginning of the mortgage. Often referred to a “teaser rate”, this low introductory rate may last for several years. Once this introductory period ends, the loan transforms into a variable rate mortgage. As for how much this rate can increase or decrease will be dictated by the terms of the mortgage.
Advantages of an adjustable-rate mortgage (ARM)
- Low mortgage payments: In an environment such as the current one where rates are increasing, it may be advantageous to opt for an ARM. During the low fixed-rate period that can last 3, 5, 7, or 10 years, you can expect a low and predictable payment schedule.
- Ideal for short-term ownership: If you don’t expect to live in the home for too long, an ARM may be an ideal option for you. For example, this may apply to someone that is buying a starter home with plans of starting a family and moving to a larger home eventually. This may also be an approach taken by someone who will likely be relocating for work in the next few years.
- Rate caps apply to the variable portion of the loan: Another feature of an ARM is that there are rate caps in place for once the fixed-rate portion of the loan expires. This helps protect the borrower from having the lender raise the rate to whatever they choose.
- Rates may decrease: Although not likely in the current environment, it is possible that your rate could fall if prevailing mortgage rates drop.
Disadvantages of an adjustable-rate mortgage (ARM)
- Increasing rates = increasing payments: In an environment of increasing rates, you can expect your payments to rise once you enter the variable rate portion of the loan.
- Borrowers must have a contingency plan: In the event that you are still in the home when the variable rate portion of the loan begins, it is critical that you have a financial plan to cover the increasing payments. This can be a real challenge for home owners.
- Complicated terms of the loan: The terms and structure of an ARM can be complicated for many home owners. It is important that your mortgage broker explain the details of the loan and how it works.
An adjustable-rate mortgage may be a good option in the current rising rate environment depending on your timeline. As always, it is important to discuss the pros and cons of this option with your mortgage broker and real estate agent. As with any home search, a well thought-out plan will be critical to your success. Are you looking to buy or sell in the South Florida market? We can help. Contact the Live South Florida Realty, Inc. team today! Looking for an additional home search tool to take with you everywhere? Download the Florida Home Search App today!