Rate Changes |
Never. Fully fixed for entire term. |
Never. Fully fixed for entire term. |
Usually after fixed period of 3, 5, 7 or 10 years. |
Fully variable. |
Never. Fully fixed for entire term. |
| After that, annual change typical. |
Typically changing at one-year intervals. |
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Some have shorter change intervals. |
Benefits |
Low, stable payment. |
Stable payments. |
Lower rates than fully fixed-rate mortgage. |
Can have lowest interest rates. |
Often has lower interest rate/monthly payment over balloon period than fixed rate. |
| Easiest Qualification. |
Builds equity faster. |
Can sometimes borrow larger amount for same income |
Qualification may not depend upon today’s interest rate |
Similar to hybrid ARM. |
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Lower total interest costs than 30-year term. |
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Drawbacks and Risks |
Can have highest total interest cost over time. |
Requires higher income to qualify. |
Stable payment for a number of years, then unpredictable. |
Payments fluctuate at each rate change. |
Loan fully due and payable when balloon period ends. |
| User may “buy” more rate stability than actually needed, increasing cost. |
Less affordable monthly payment. |
Rates can jump by as much as 6 percentage points at first adjustment. |
Unpredictable, rates can change as much as 2 percentage points at each adjustment. |
Must be paid off or refinanced in unknown market conditions. |
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Must be paid off or refinanced in unknown market conditions. |
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Alternative Strategy |
Consider Hybrid ARM with appropriate fixed period. |
Consider 30-year term and prepaying loan to preserve cash-flow flexibility. |
Consider Fixed rate mortgage or longest possible fixed period, if loan hold period not known. |
Consider Hybrid ARM to ameliorate rate and payment risks for a given period. |
Consider Hybrid ARM to ensure continued loan availability. |
Useful For… |
Purchasing a home. |
Refinancing to lower total interest cost. |
Purchasing or refinancing when time horizon
is seven years or shorter, and where borrower can handle increase in monthly payments. |
Purchasing or refinancing when interest rates are near top of cycle,
and are likely to fall, or sale or refinance is anticipated within three years. |
Purchasing or refinancing when time horizon is three years or longer and home
will be sold prior to end of balloon period. |
| First-time homebuyers. |
Retiring mortgage more quickly. |
| Refinancing to improve cash flow/lower payment. |
Building or rebuilding equity more quickly. |
Consider when… |
Buying or refinancing a home and planning on owning for longer than 10 years. |
Buying second home. |
Buying a home and expect to move before fixed period ends,
or know income will rise to offset payment risk, even in worst-case scenario. |
Buying or refinancing when income can handle frequent
payment changes and worst-case scenario for rates over a four-year period. |
Buying a home and expect to move before balloon period ends, or have resources to pay off mortgage if refinance not available. |
| Refinancing to build equity. |
| Paying off mortgage before life event (retirement, etc). |
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