Adjustable Rate Mortgages (ARMs) have gotten a very bad wrap over the past six months. Since the majority of subprime mortgages that were sold were adjustable, people have associated the current mortgage crisis with adjustable rate mortgages. This is really too bad because many consumers would be better off with an adjustable rate loan product than they would with a fixed rate product.
Households that move frequently are always better off with adjustable rate mortgages. Frequent movers are classified as any household that moves once every five years. Many young families fall into this category. When a couple first gets married they may want a small house for just the two of them. Three to five years later they may have their first baby on the way or get relocated with a promotion. They may even have one more moves as the family continues to grow.
Frequent movers benefit from an adjustable rate mortgage because most are fixed for at least three years. Adjustable rate mortgages come with 1-, 3-, or 5-year rate locks. What this means is that for at least five years, the interest rate on a home mortgage will be less than what it would have been with a fixed rate. Typically, the discount between an adjustable rate mortgage and a fixed rate mortgage ranges from 0.5% to 1.0%. Over a five-year period that could add up to substantial savings.
Investors are another group that benefits from adjustable rate mortgages. Most investors look to refinance their property as soon as they get a substantial amount of equity built up. They do this for two reasons: 1) The cash they take out of their investment property can be used to finance additional investments. 2) In the United States mortgage interest is tax deductible.
For investors it almost always makes sense to stick with an adjustable rate loan. The lower payments increase returns. Since a refinance every five to seven years is inevitable, it makes sense to take the risk with the adjustable rate mortgage.
Consumers Who Should Avoid Adjustable Rate Mortgages
This product is not for everyone. Borrowers who are stretching themselves to make their current mortgage payments should be careful when considering an adjustable rate mortgage. The resets could result in higher payments down the road that might be unaffordable.
Families who plan on being in their home for 30 years should stick with a fixed rate product. Over the life of the loan, the fixed rate product will probably be cheaper and cause less stress and heartache as interest rates adjust yearly. Fixed rate loans take a lot of the guess work out of personal financing.
A mortgage is a tool that enables homeownership. It should be used as such. Consumer should avoid products they don’t understand or feel comfortable with, but they should also actively seek to understand how to use all the tools at their disposal.