Pros and Cons of Adjustable-Rate Mortgages

Blog posted On April 14, 2022

In a rising interest rate environment, the numbers that you see can be intimidating. Especially if you’re used to record-low rates. Getting a fixed-rate mortgage in a high-rate environment can be intimidating. Once you close on your loan, you are locked into that interest rate unless you refinance. Another alternative – one that many homeowners and home buyers haven’t thought of in a while – is an adjustable-rate mortgage (ARM).

An ARM is a type of mortgage loan with an interest rate that varies over time. Unlike interest payments on a fixed-rate mortgage, interest payments on an adjustable-rate mortgage will rise and fall depending on the movement of market rates. Market rates will fluctuate depending on many economic factors, including geopolitical tension, inflation, and more. Though most borrowers opt for a fixed-rate home loan, adjustable-rate mortgages can be a good option as well

Pros

• Oftentimes a lower initial rate – ARMs are technically ‘fixed’ for a certain amount of time in the beginning of the loan. This is the introductory period, which often can offer lower rates than fixed rate mortgages.
• Interest rate is variable – After the introductory period is over, your mortgage rate will start to vary based on the market rate. Sometimes this can be good if the market rate goes down.
• Interest rate can’t rise beyond cap limit – They are different cap limits for ARMs that restrict how high your mortgage rate can go – no matter the market rate.
  • Periodic cap limit – Limits how much your interest rate can rise year-over-year.
  • Lifetime rate cap – Limits how much your interest rate can rise over the life of your loan.
  • Payment cap limit – Limits how high your monthly payment can get in terms of dollars.

Cons

• Interest rate might rise over time – After the introductory period, your interest rate can climb higher over time instead of staying at a fixed, steady rate throughout the life of your loan.
• Interest rate is dependent on market – ARMs are more or less at the mercy of the market. If economic factors or geopolitical factors cause issues in the mortgage bond markets, your mortgage rate and therefore monthly payment will be affected.
• Can be more complex structurally – You might have to be a little bit more on top of your mortgage with and ARM, since factors will be changing every year or so.

There are many benefits of getting an adjustable-rate mortgage. To learn more about how an ARM could benefit you, let us know.

Sources: Bankrate, CNBC