Applying for a mortgage means you will have to make many decisions. Among those decisions is the need to take a fixed or adjustable interest rate. Before you jump head first into either type of mortgage, you will need to factor in many variables. There is no cut and dry answer as to which type is right for anyone – every situation will differ. Each type of mortgage has its own benefits, making it necessary to thoroughly examine your own financial life as well as your future plans to determine what is right for you.
Understanding the ARM Loan
Before you can make a decision, you need to understand an adjustable rate mortgage. Many people get excited when they see the lower rates of this type of loan, making it the driving force behind their decision. The mortgage you choose should not be based on interest rate alone, though. An ARM loan means you will have an interest rate that adjusts after a fixed period. During the adjustment period, your interest rate will change annually. Each loan has a maximum amount it can increase by on an annual basis as well as over the life of the loan, but the potential for a drastic increase is still there. For example, a 5/1 ARM will have a low fixed rate for the first five years of the loan and then will adjust one time per year for the remaining 25 years of the 30-year term. This can make your loan payments unpredictable for many years to come.
Determining the Amount you Qualify For
Many people turn to adjustable rate mortgages when purchasing a home in order to qualify for a higher loan amount. This is possible because of the lower interest rate which translates into a lower debt-to-income ratio. For some borrowers it could mean the difference between qualifying for $20,000 or more on a mortgage. If you are shopping for a home, the higher loan amount can make a large impact on your buying power. This should not be the only factor considered, but it can play an important part in the final decision you make when deciding which mortgage is right for you.
What are your Future Plans?
No one can predict the future, as is evident with the latest housing crisis, but you can determine your general plans when you purchase a home. Do you plan on this home being your “forever” home or do you see yourself moving in 5 to 10 years? Are you at a stable job where you see yourself in 5 to 10 years? Maybe you have plans to open your own business or change industries. Are you married now? Do you have kids? All of these factors play an important role in the type of mortgage you take out. If you are unmarried with no kids, you may get married in the future and have several kids, requiring you to move into a different home or stay where you are just in order to make ends meet. If you are going to change jobs or open your own business, your income may become less stable, making an adjustable rate mortgage a struggle to afford. When you have a basic idea of your future plans you can make the best decision for you right now.
Thinking about Higher Payments
Chances are that an adjustable rate mortgage will have higher rates in the future. Are you prepared to handle those rates? If any part of your future is in question, taking a mortgage with an unknown future payment can be rather risky. Even though you can figure the highest rate you will be charged by looking at the lifetime cap of your loan, you still cannot properly prepare yourself to physically make those payments. This is a risk you have to be willing to take if you opt for the adjustable rate mortgage.
In general, new and existing homeowners choose the fixed rate loan for its predictability and stability. There is comfort in knowing your mortgage payment for the next 30 years. The only thing that will change over that time is your escrow payment, if you set up an account with the mortgage company to pay your taxes and insurance. This number changes along with your taxes, which would change whether you were paying them on your own or through the mortgage company. The ARM loan does have its benefits and for those people that are able to handle the risks it can be very beneficial. Take a look at your exact circumstances and how an adjustable rate would fit into them to determine the right choice for you.Click to See the Latest Mortgage Rates»