How to Choose the Best Mortgage
Should you be lured into the low rates offered by Adjustable Rate Mortgages? At the moment, adjustable-rate mortgage rates are being offered for roughly one-and-a-half percentage points below fixed-rate mortgage rates. Temping, but is it a smart move? Zillow’s Mortgage Marketplace, which tracks real mortgage rates offered to consumers, reports that the average rate on a 30-year fixed-rate mortgage was recently about 4.72 percent, while 5/1 ARMs were going for 3.22 percent.
On a $300,000 mortgage, you’d be looking at a difference in interest cost of almost $4,500 annually, which is certainly significant. But while it may seem like a no-brainer, there are risks associated with the mortgage payment once the ARM adjusts. Plus it’s quite likely that the fully indexed rate will be higher than your initial start rate, and possibly more than the fixed rate. Therein lies the risk of the early discount which is absorbed by the borrower.
So if you opt for an ARM, you will need to ask yourself if you’ll be able to manage a higher mortgage payment. Plus does it make sense to take on the risk. Assuming you only plan to stay in the home for five years or less, or refinance before then ( and pay the associated cost for refinancing), a 5/1 ARM would make a lot of sense, but how many people can actually say that? What is the actual risk? You need to understand the CAPS that the loan has. How much can it change at each adjustment period.
At the same time, many borrowers refinance or pay off their mortgages long before their full term, so you could argue that there’s a chance the adjusted rate won’t actually matter. There are also ARM loans with different fixed terms such as 7 years or 10 years. The longer the fixed term the slightly higher the rate. It really comes down to your unique situation and what type of borrower you are. If you have a low risk appetite and plan to stay in the home for the foreseeable future, a fixed-rate mortgage is a good choice, especially now since mortgage rates are still historically very low.
On the other hand, if you aren’t risk-averse and plan on either refinancing or selling your home in the near future, choosing an ARM might make a lot of sense. The monthly savings could even allow you to save up for a bigger home purchase in the future or some people choose to apply the savings to the current mortgage as pay it down faster. Either way, be sure to do your research, draw up a plan, compare rates and outcomes, and shop around before making a decision.
