April 3, 2017
That’s a very good question and one you might have heard
more than once. The question of an ARM vs. a Fixed Rate Mortgage is age-old and
one the very first questions your loan officer might ask. You can do your own
research about which is better but the answer might very well be neither. Or
both. Or maybe just one of them. Confusing? It shouldn’t be but there are times
when the answer is pretty much automatic while at other times it takes a bit more
thought. Let’s explore the questions you should ask and answer to help guide
you the rest of the way.
A fixed rate loan is pretty basic. The interest rate you
choose when you lock in your loan is the rate is the same rate throughout the
life of the loan. A fixed rate never changes. It’s fixed. An ARM, or an
adjustable rate mortgage, can adjust over the life of the loan but only under
the provisions set forth in your note.
An ARM has an index on which the rate is based plus a margin
that is added to it. A common index today would be a 1-Year Treasury or a
1-Year Constant Maturity Treasury, or CMT. A margin might be 2.00 or 2.25. If
the 1-Year CMT is 1.00 and the margin is 2.25, the new rate on which your
payment is based is then 3.25% and will remain so until the next adjustment one
year from now.
Most ARMs today come in the form of a hybrid mortgage where
the interest rate is fixed for an initial period of time, say three or five
years after which it turns into a rate that can adjust annually. So which is
better? More specifically, what is better for your situation?
If you plan on keeping a mortgage for an extended period of
time then a fixed rate might be the better choice due to the stability of the
rate. ARMs and hybrids will have a lower start rate compared to a fixed. That
means if you’re going to keep a mortgage for a relatively short period of time
say only three, five or seven years, then an ARM or a hybrid is probably your
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