Adjustable Rate Mortgage Pros and Cons

Buying a home requires more than just saving up to get a mortgage and finding your perfect home. It also includes finding the right type of mortgage that’s best for your budget—loan term, interest rate and monthly payment all play a factor in what you can reasonably afford. An adjustable-rate mortgage (ARM) might be something to consider as you’re exploring different borrowing options, especially if you are planning on being in your next home less than 10 years.

Pros include low introductory rates and flexibility; cons include complexity and the potential for much bigger payments over time.

How does an adjustable-rate mortgage work?

With an adjustable-rate mortgage, your payments can increase or decrease with interest-rate changes, based on the terms of your individual loan and a benchmark rate index. In some cases, choosing an ARM over a fixed-rate mortgage could be a solid financial decision, potentially saving you thousands of dollars. Ask loan officers to explain ARM risks and exactly how much the payments could increase.

Some people believe fixed-rate mortgages are always the better choice. But ARMs can be an option for home buyers who know they'll have the loan for only a few years. Carefully weigh the pros and cons before applying.

Low payments in the fixed-rate phase

A hybrid ARM offers potential savings in the initial, fixed-rate period. Common ARM terms are 3 years, 5 years, 7 years and 10 years. With a 5-year ARM, for example, your introductory interest rate is locked in for five years before it can change. That gives you five years of predictable, low payments.

The initial low rate might also allow you to qualify for a larger mortgage than you could with a fixed-rate loan. Just ask yourself if you could make higher monthly payments in the future if necessary.

Flexibility

An ARM can be a good idea if your life is likely to change in the next few years — for instance, if you plan to move or sell the house. You can enjoy the ARM’s fixed-rate period and sell before it ends and the less-predictable adjustable phase starts.

Rate and payment caps

ARMs have caps that limit how much the mortgage rate and your payment can increase. These include caps on how much the rate can change each time it adjusts and the total rate change over the loan’s lifetime.

Your payments could increase

If interest rates rise, your payments will increase after the adjustable period begins; some borrowers might have trouble making the larger payments.

Things don’t always go as planned

ARMs require borrowers to plan for when the interest rate starts changing and monthly payments grow. Even with careful planning, though, you might be unable to sell or refinance when you want to. If you can’t make the payments after the fixed-rate phase of the loan, you could lose the home.

ARMs are complex

ARMs can have complicated rules, fees and structures. These complexities can pose risks for borrowers who don’t fully understand what they're getting into.

Is an ARM right for you?

Whether an ARM is a good choice depends on your goals and comfort level with unpredictability. If you sell the home or pay off the mortgage before the adjustable rate goes up, you'll save money. Buying a home in San Diego requires research to discover the best options for your long term goals. Take time to ask questions, reach out for guidance, and work with someone who can help you create a holistic plan for your unique goals.

Tristen Campanella is a San Diego Real Estate focused on the long term security of her clients. By taking a holistic approcach to real estate in San Diego, she guides her clients to make the best choices for her clients stable future. Contact her to create a custom home buying or selling plan for you.