Many homeowners and real estate investors use mortgages to finance the purchase of their homes or investment properties. There are two major categories of mortgages from which to choose- fixed interest rate and adjustable rate mortgages.
Some mortgages do combine elements from both categories. They may remain fixed for a certain number of years and then have a variable interest rate for the remainder of the mortgage.
Features of an Adjustable-Rate Mortgage
Adjustable-rate mortgages (ARMs) have an interest rate that varies over time. An ARM is particularly attractive at the start because they’ll offer a lower interest rate than comparable fixed-rate mortgages at the time. However, with ARMs, interest rates will fluctuate. The borrower will pay different rates every year, possibly even every month. Consequently, the loan’s monthly payment amount is variable as well.
ARMs offer more features and options than do fixed-rate mortgages. The initial lower interest rate means investors can more readily achieve a positive cash flow during the early years of owning the property.
In addition, if interest rates decline, the borrower automatically takes advantage of these with the already established mortgage. With a fixed-rate loan, the only way to benefit from a drop in interest rates is to refinance.
The start rate is also known as a teaser rate because it is too good to last. It is set low to allure borrowers. The interest rate will increase as soon as the terms of the loan allows. Typically, this involves a 1-2% increase.
Along with this awareness, it is advisable to ask the mortgage lender or broker to assist in determining the future interest rate of the loan. To do so, combine the index (measure of the market interest rate designated by the lender) and the margin (the amount added to the index). Compare the future interest rate with the current rate for fixed-rate mortgages in order to make a sufficient assessment.