Basics of Variable-Rate Mortgages
The variable-rate mortgage became very popular during the 1990s and remains the most popular mortgage choice today. Variable-rate mortgages are also the most misunderstood. Variable-rate home loans have an interest rate that fluctuates depending on the current state of the market. These loans are also known as adjustable rate mortgages (ARM) and floating-rate mortgages.
When considering using a variable-rate mortgage, check for caps — or limits — to how much the rate may increase. There are certain benefits to using ARM loans. Benefits include extremely low initial interest rates, sometimes as low as two or three percent! This is an ideal loan for someone who needs financing for a short period of time, before the heavy interest rates kick in. Sometimes these rates remain fixed for initial periods of one, three, five, or seven years.
These loans are ideal for people who are going to sell their home before the initial fixed rate increase, or will be refinancing into a fixed-rate mortgage before the rate increase. However, after the initial period of very low interest rates there is often a large rate increase. Many homeowners facing foreclosure ran into problems when the interest rate went up on their fixed-rate loans.
ARM loans are not designed to be a long-term financing option. If you are considering using an ARM loan, there are several questions you must ask yourself first. Are you financially stable enough to be able to afford a large, sudden payment increase? Is the housing market strong enough to allow you to sell before your rate adjusts? Is your credit good enough that you would be able to refinance into an affordable fixed rate loan once the rate on your ARM loan begins to vary? Would you be able to afford a sizable down payment?
Variable-rate mortgages were designed for a specific purpose and, if used the way they were designed to be used, are very effective and profitable. Caution should be exercised whenever considering an ARM loan – know what you’re getting into and make sure your situation makes it feasible to use an adjustable-rate loan.
