When shopping for a mortgage, you must ask yourself a few questions: How long do you plan on being in the home? What are the guaranteed savings you’d enjoy by taking the lower rate for the secure fixed period of the ARM?
If you find that you’d save money in the first 5 years by taking a 5 year ARM instead of a 30 year fixed – and you believe the likelihood of you moving in five years is high – taking the ARM makes a great deal of financial sense.
An ARM generally has a fixed period where the rate won’t change. By matching your situation to the fixed period, you can custom tailor your loan so you only pay for the interest rate security you need. You can get an ARM with a fixed-rate period of 3, 5, or 7 years. The rate is lower, often much lower, than a 30-year fixed rate mortgage. Most clients who choose an ARM are only in that mortgage during the fixed period. They usually move or refinance before the ARM begins to adjust.
In those cases when a client holds onto the ARM past the fixed period, built in security features of an ARM kick in. ARMs have caps that limit how much they can rise. For instance, if rates go up, they would only go up 2% higher than the rate at which you closed. In some cases, the rate can even go down. After the reset, it will fluctuate according to where the market is. There are also life caps which limit how high the rate could ever go.
You should also consider your other financial goals. If you want to maximize the amount of money you put away for retirement or a child’s college fund, you may want to look at an interest-only ARM. The dramatically lower payments required by interest-only products mean tremendous flexibility.
Many clients divert extra funds that normally would have to go to pay down principal into a 401k with a company match or to paying down high interest credit card debt instead of paying down relatively cheap, tax deductible mortgage debt.
As always, the best mortgage decisions start by working with a mortgage expert who can clearly outline the pros and cons of all of today’s mortgage programs.
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