Looking for an ideal mortgage plan for you can be a tedious job. You may get confused with all the options that are available to you. Since, getting a mortgage is an important financial decision of your life, which can affect your credit report forever, you ought to be very cautious before settling for one plan. Fixed rate mortgage and adjustable rate mortgage are the two most important types of mortgage payment plans. While both have their own advantages and disadvantages, you may benefit the most by choosing one that suits your needs the best.
An adjustable rate mortgage (ARM) is a mortgage plan with variable interest rates throughout the life of a loan. A fixed rate mortgage loan has an interest rate that remains uniform throughout the lifetime of a loan. The interest rate of ARM is determined by the condition of market. Positive or negative trends in the market have an influence on the interest rate that you pay. If the interest rates fall, you will have to pay less monthly payment, whereas a swell in interest rates invariably leads to higher monthly payment for you.
One of the biggest advantages of adjustable rate mortgage is that it allows you lower initial payment. The interest rates are far less than fixed rate mortgage during the first year of the loan. The rates are then adjusted according to the market condition. Thus, your chances of getting higher and lower interest are equal. There are different types of adjustable rate mortgage plans. Some of these plans have an upper limit on the rate of interest. Thus, irrespective of market condition, you won't have to pay interest rates beyond a certain upper limit. Such plans are beneficial for you as they offer minimal risk.
Another great advantage of adjustable rate mortgage is that it allows you to take bigger mortgage loan. If you anticipate better career prospects or cash influx in near future, then an ARM can serve as a better option than fixed rate mortgage. This is especially true, if you only wish to stay in your home for 5 years or less. After 5 years, you can sell your house and thus benefit in return. As your loan gets automatically adjusted according to the market rates, you are relieved from the hassles of refinancing. Moreover, some ARM plans allow you to switch to fixed rate plan at any point of time without extra charges.
ARM sure sounds as an attractive option at the first glance. However, you need to get familiar with the various risks associated with this type of loan. For one, the interest rates are very volatile. Thus, even if you may get lower interest rates in the initial period, at some point of time, you will invariably have to pay higher interest rates. Thus, the overall effect is same as that of a fixed rate mortgage. Sometimes, you may end up paying far more than you would on a fixed rate mortgage. Thus, there is really no way of telling if adjustable rate mortgage is better than fixed rate mortgage, as everything depends upon the market conditions.
Another important drawback of ARM is that you cannot allocate a fixed budget for your monthly payments. When you opt for fixed rate plans, you have an idea regarding how much you will be charged every month. This makes it possible to plan your finances accordingly. However, an ARM may cause your entire monthly budget to go for a toss, if you fail to anticipate the market trend.
Thus, one needs to consider all the advantages and disadvantages of adjustable rate mortgage before opting for one. For short term, this can be a good option but long term mortgages must be dealt with caution.