Adjustable Rate Mortgages |
By Thomas Morva |
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An adjustable rate mortgage (ARM) is a mortgage with an interest
rate that is variable. Unlike a fixed rate mortgage where the
payments are steady throughout the term of the mortgage, interest
rates for adjustable rate mortgages are linked to an economic index
and tend to vary over a period of time.
Adjustable rate
mortgages usually have an initial fixed rate that is lower than the
interest rate of a comparable fixed rate mortgage. This is because
these kinds of mortgages transfer a part of the interest rate risk
from the lender to the borrower.
A lower initial rate means
lower payments, which can allow you to take a larger loan. However,
if the interest rates start rising, your monthly payments will
increase or the term of the mortgage will increase depending upon
the policies of your lending institution.
An ARM begins with
a rate that is fixed for the initial period. Once this initial
period is over, interest rates vary at adjustment intervals. For
example, a "3/1 ARM" has a initial low rate that is fixed for the
first 3 years, and then gets adjusted every year, based on the
variations in the economic index to which it is linked. Common
adjustable rate mortgages include: 1/1, 3/1, 5/1, 7/1, and 10/1.
Some adjustable rate mortgages may be allowed to get converted into
fixed rate mortgages. However, a conversion fee is levied, which
could be high and could take away any savings that you might have
gained from the initial lower rate.
Lenders do not allow you
to choose the economic index to which the adjustable rate mortgage
is linked; however, you can choose the lender based on the index
that will apply to your loan.
It is advisable to ask the
lender how each index used has performed in the past and choose the
index that has remained fairly stable. |
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