Adjustable Rate Mortgage, Risky Loan or good investment?

By Michael Mapes, The Responsible Mortgage Lender

It is no wonder consumers are nervous about financing a new home or refinancing their current mortgage.  Every where you turn there is something on the news about loans adjusting, payments going up beyond the homeowners ability to pay and even cases of lenders not telling the borrower what kind of loan they are getting.  Only to find out that the fixed rate the thought they had was in fact, an adjustable rate mortgage (ARM).

The truth is an Adjustable Rate Mortgage properly managed can be a wise investment.   There are several types of ARM loans available.  The most popular types are what are termed "Hybrid Arms".  Hybrid Arms are loans that carry a term in which the payment is fixed.  It operates just like a fixed rate loan and has fixed rate terms of 3, 5, 7, and 10 years.  During that time frame your payment of Principal and Interest are fixed.  For most people who choose a Hybrid Arm the 5 year is the most popular.  However, if you have not refinanced or sold your home in the time frame of the fixed rate period then on the anniversary date of your closing regardless of fixed rate term your house payment will go up.  If you had a $200,000.00 loan at 5% then on the anniversary of your closing (which ends your fixed rate period) your payment would go up by $260.00 per month.   After that your payment could continue to up or go down based upon what the U.S Treasury Index is doing at that particular time in the future. 

Why would someone want a loan that is going to go up?  After all people really do want the stability of a fixed rate loan?  The answer is, of course they do, but there is a trade off.  Hybrid ARMS especially the 3 year and 5 year carry interest rates that are normally (in a healthy economy) 1% to ½% lower than fixed rate loans.  Some home owners buy a home knowing they will not be there long enough for the ARM to adjust.  Corporate Transfer, Job Relocation, Military Transferees or just simply upwardly mobile families can find actual savings in a "Hybrid Arm".   In these cases a family could save somewhere between 85.00 - $175.00 per month on a $200,000.00 mortgage.  Over the course of three to five years it adds up to huge savings.

Sometime, families choose these loans because it is the only way they can qualify for the home they wish to purchase.  While this is a risky strategy, it can be managed.  As your income rises you need to account for the fact that one day you will have to refinance into a fixed rate.  Here are some ways in which you can prepare for this event:

• Make sure you make all your payments on all accounts on time
• Payoff most of your debts or keep them as low as possible.
• Make extra principal payments so you can decrease the amount you owe.
• Watch interest rates and when they fall to the same level as your current rate, refinance.

While Adjustable Rate Mortgages are not for everyone, they can be a wise investment for some.  Knowing the difference between fixed and hybrid arms and how they relate to you is the key to saving you money or costing you money.   A reputable lender should spend some quality time explaining the differences and how ARMS adjust.