Adjustable Rate Mortgages – Good or Bad?

Does the term adjustable rate mortgage or the thought of having one send you into a panic? While an adjustable rate mortgages (ARM) is not right for everyone or for every situation, there are advantages to having an ARM over a fixed rate mortgage.

First, adjustable rate mortgages tend to have lower interest rates than fixed rate mortgages. Depending on when the ARM is due to adjust and what interest rates are expected to do (increase or decrease), an adjustable rate mortgage can cost a borrower a lot less in the long run.

A scenario where it may be beneficial to have an ARM is when you know that your time living in the home or having the mortgage will be short. If you can deal with possible adjustments in your monthly mortgage payment and only plan on living in the home for a short period, it may save you thousands of dollars to obtain an ARM over a fixed rate. For example, if you know that you will only be living in the home for 3 years, then a 3/1 ARM may work for you. This is a fixed-to-adjustable rate mortgage that has a fixed interest rate for the first 3 years of the mortgage. After the third year, the interest rate adjusts every year.

If you'll only be in the home three years, it doesn't matter what the interest rate does on the fourth year because you'll no longer be living there. During the three year period, however, you can enjoy a lower interest rate than a fixed rate mortgage, which means less in monthly mortgage payments.

Another situation where ARMS are more beneficial is when interest rates are expected to drop. For example, Mr. Smith purchases a home using an adjustable rate mortgage that adjusts every six months. He did this because he expects interest rates to drop over the next couple of years. It is a gamble because interest rates can go either way, but if you can emotionally and financially handle fluctuations, ARMs can be more cost effective ways to finance a home.