Buying a home can be quite a confusing process, especially when it comes to getting a loan to pay for your home. Many people today work to get pre-approved for mortgages before beginning the search for the perfect home.
Pre-approval means you have an overall idea of what kind of budget you can work with when buying a home. It also helps to ease seller concerns when accepting bids if you’ve been pre-approved for the bid amount or greater.
Before you dive in, though, it’s a wise plan to learn a little more about your options. Knowing the differences between ARM and fixed-rate mortgages, for instance, can help you save a great deal of money and frustration over the life of your mortgage.
What is an ARM?
ARM is the standard abbreviation for an Adjustable Rate Mortgage. What that means for you is that the interest rate on your mortgage can change over time.
Depending on the specific terms of your mortgage, those rates will remain steady for a certain number of years, typically five, though that number is not set in stone. Once the five-year “honeymoon” is over, your mortgage rates can change as frequently as every two years.
While this may sound like a good thing at first glance, these rates may not adjust in your favor. In fact, it’s more probable they will increase, leaving you to pay more over the life of your mortgage.
When are Adjustable Rate Mortgages Beneficial?
This isn’t to say that adjustable-rate mortgages are bad for everyone. There are occasions when these types of mortgages can be highly beneficial.
For instance, military families often leave for new duty stations every few years. Some military personnel seek the stability homeownership provides but will rarely be in their homes beyond the initial five-year period of protection most ARMs provide.
These situations are perfect for ARMs, which almost always offer lower initial interest rates than fixed-rate mortgages. Since you will likely be selling your home quickly, you won’t have time to take a financial hit when the rate is increased, and you get to enjoy the lower interest rate while building equity in your home before you sell it and move.
What are Fixed-Rate Mortgages?
For the general public, though, fixed-rate mortgages are the most popular. A fixed-rate mortgage offers you a standard interest rate that will remain the same for the duration of the loan. Whether your loan is 15 years, 20 years, or 30 years, your interest rate will be the same throughout the life of your loan.
Not only are fixed-rate mortgages easier for most people to understand, but they also avoid the perception of trickery that some people have once that first ARM increase occurs.
Your home mortgage is a 30-year commitment on your part – in most cases. When you consider the costs of interest over a 30-year period, it doesn’t take a substantial rate increase from an ARM to add up to a significant amount of money in additional interest paid on the home. Additionally, these small adjustments can result in sharp swings in your monthly mortgage payments too. So, beware of the possibilities before accepting an ARM over a fixed-rate mortgage for your home loan.
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Each individual’s financial situation is unique and readers are encouraged to contact the Credit Union when seeking financial advice on the products and services discussed. This article is for educational purposes only; the authors assume no legal responsibility for the completeness or accuracy of the contents.