A mortgage loan with the interest rate on the note periodically base on an index which reflects the cost to the lender of borrowing on the credit market. Adjustable rate mortgage gives you greater flexibility to make extra repayments and redraw but rates can vary.
The appeal of variable rate mortgages, also called adjustable rate mortgages (ARM), is when that the interest rate is typically lower than that of fixed rate mortgage products. However, the main drawback is the risk involved. Without warning, interest rates could increase or decrease. When looking at mortgage products, you want to choose the one that best fits not only your current financial situation. But also what you expect your financial situation to be in the near future.
1. One of the quickest ways to determine if an adjustable rate mortgage (ARM) product is right for you is whether or not you can afford interest rate increases. The first thing you should assess is your current income, earnings and potential for increase of earnings.
2. If you can comfortably afford mortgage interest rates that are two per cent higher than what you’d pay on your variable rate, then you may be OK. But proceed with caution. “Rates right now are at historic lows. So low that it’s quite conceivable you could see rates double in the next little while.
3. Understanding the risk involved with adjustable rate mortgages is a prerequisite. Since rate changes can Be difficult to predict, it’s important to be sure that you could afford your mortgage payments if rates were to rise.
4. If you’ve decided you can afford adjustable rate mortgage, the next thing you will want to determine is if an adjustable rate mortgage fits your personality. If you’re the type of person who can’t sleep at night knowing your interest rate may go up, even slightly, an adjustable rate mortgage may not be the best option for you.
5. For those who plan to move within a relatively short period of time (three to seven years), an adjustable rate mortgages may still be attractive because they often include a lower, fixed rate of interest for the first three, five, or seven years of the loan, after which the interest rate fluctuates.
The risk (of adjustable rate mortgages) versus the reward is not substantial enough to take the risk. While most people are risk-averse, first time home buyers nearing the beginning or growth of their families are more likely to choose a fixed mortgage because it means they can budget for the length of their mortgage term. In addition, the costs of purchasing a new home and maintaining it can swallow a large portion of their income, not leaving a lot for possible rate increases.
If there’s a particular rate and payment you feel good with and know you can afford, then most people will prefer the peace of mind. Of course, an adjustable rate today doesn’t necessarily mean it’s going to be an adjustable rate tomorrow, if you can boil it down to a dollar per month cost, it makes it a lot easier for people to make a decision.
Your income, lifestyle and risk tolerance will weigh heavily on your decision and will inevitably determine which loan product suits your circumstances.
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