Should you consider an adjustable rate mortgage (ARM)? The
interest rate of an ARM is tied to an index rate. Periodically
the monthly payment on an adjustable rate mortgage may go up or
down depending upon whether the index rate it is tied to has
gone up or down.
Obvious advantages - An adjustable rate mortgage has two
obvious advantages. One, at the beginning of the mortgage term
the monthly payment will be lower. Two, the payment to income
ratio will be lower therefore it may be possible to qualify for
a larger loan amount.
Know ARM definitions - There are three basic terms to
know when considering an adjustable rate mortgage. One, index
rate – the rate that the mortgage will be tied to, such as a
one, five or ten year treasury security. Two, margin – the
amount the interest rate on the mortgage will fluctuate. A
margin of two means the interest rate will be two points above
the index rate. Three, caps – ceilings on how much the interest
rate can go up each period. There also may be caps on the
interest rate over the life of the loan and caps on the actual
amount of the payment.
Be cautious - Depending on the situation an adjustable
rate mortgage can be a wise idea. However, an ARM can also lead
to an unanticipated large increase in a monthly mortgage
payment. Payments may go up $200 or more at one time. If
considering an ARM, discuss it in depth with your financial
institution. Don’t be timid about getting a second opinion.
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