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ARM Loan Considerations
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What is an ARM loan?
A 7/1 ARM is an adjustable-rate mortgage that has a fixed interest rate for the first seven year duration, together with amortization and fixed interest. The interest rate then changes after the initial years. Compared to fixed-rate mortgages, a 7/1 ARM could be attractive for borrowers, as you’ll pay a lower interest rate in the initial period.
Who are eligible for it?
Borrowers may qualify for an ARM loan with a FICO credit score as low as 580.
How does an adjustable-rate mortgage work?
With an adjustable rate mortgage, your monthly payments may fluctuate in interest rates, based on the terms of your individual loan and an index of benchmark interest rate chosen by your lender. In some cases, the choice of an ARM over a fixed rate mortgage could be a sound financial decision, which can save you thousands of dollars. You should always ask your lender to explain the risks of ARM and the exact amount of increase in payments.
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Advantages and Disadvantages
Advantages
- Lower payments in the Fixed-Rate phase: A hybrid ARM offers potential savings in the initial fixed-rate stage. ARM common terms are 3/1, 5/1, 7/1 and 10/1.
- Flexibility: An ARM may be a good idea if your life is projected to change in coming years – for example, if you move or sell the house. You can enjoy fixed rate period ARM and sell before it ends and begins with the less-predictable phase.
- Rate and payments cap: The ARMs may have various types of caps, which restricts the increases in your mortgage rate and the size of your payment. These include caps on how much the rate can change with every adjustment during the life of the loan.
- Your payments may decrease: If interest rates fall, and lower the index against which your ARM is benchmarked, there’s a possibility that your monthly payment could fall.
Disadvantages
- Your payments may increase: If interest rates are rising, your payments could rise after the adjustable period begins; some borrowers could have trouble making larger payments.
- Things do not go as planned: ARM requires borrowers to plan for when the interest rate begins to change and the monthly payments can grow. Even with careful planning, however, you may not sell or refinance at any time. If you can not make payments after fixed-rate stage of the loan, you could lose the house.
- Prepayment penalty: Some ARMs come with a prepayment penalty. This is a fee that can be charged if you sell or refinance the loan. If you plan on selling a home or refinance within the first five years of the mortgage, you should choose a lender offering a loan without this penalty.
- ARM are complex: ARM may have complicated rules, rates and structures. These complexities can pose risks for borrowers who do not fully understand what you’re getting into.
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