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Which ARM is the Right One for You? |
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Written by Webmaster
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By Scott Staudt
 Most borrowers now know that ARM stands for Adjustable Rate Mortgage, or a home loan that has an interest rate that adjust every certain period. As interest rates began skyrocketing in the seventies, banks decide to protect themselves against this risk by fixing interest rates more frequently.
This was not an issue until recent decades, since interest rates did not change as dramatically years ago.
Most ARMs are for thirty year mortgages, although shorter periods are available. But in the case of an ARM, it is the adjustment term of the interest rate that is of critical importance to a mortgage holder. Unless, of course, the borrower feels he will be in the house for an extended period, in which case the longer term is better since it will preclude any refinancing and the relevant charges.
The most advantageous type of an ARM for a homeowner is a 5 year adjustable. If you pick an ARM that changes its rate more frequently, you take a big chance on being hit by temporary spikes in the interest rate.
If you obtain a mortgage at a low interest rate of 6%, you can keep this rate, but if you choose an ARM that adjusts frequently (usually cheaper in the beginning), you risk perhaps 8% rates in the long run.
If, on the other hand, your adjustment period is every year, you will pay the 8% for the year(s) it holds before you are able to go to the lower rate. But you may be protected against runaway interest rates with a cap agreement.
One of the most important factors in the ARM you choose is how long you plan on living in the house. If you only plan on being in it for a few years, your main worry should be what the initial rate on the ARM is. If you think you will be in a home for six or seven years, try to negotiate a seven year adjustment. Normally you cannot get an adjustment period of over 7 years.
The interest rates on ARMs are tied to different interest rate based securities such as T-Bills and T-Notes, LIBOR (London Interbank Offered Rate) and others. There are good and bad points about each of these, but they depend on how long you intend to hold the loan, and how you think interest rates will behave. ARMs that adjust more frequently will mean that the borrower's monthly payment will change more frequently.
For many homeowners, having a mortgage payment that can change frequently can be a real catastrophe in their financial plans!
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