Definition
An adjustable rate mortgage or ARM is a secured installment loan for real property in which interest rates may fluctuate periodically to follow market rates.
Analysis
ARMs frequently have a lower teaser interest rate for the first 2 years. Mortgage brokers have successfully duped many buyers into agreeing to ARMs based on the lower interest rate, fully intending to help them refinance the loan before the rate goes up.
ARMs are intended for homebuyers who:
- Plan to sell the property within the next couple of years
- Plan to aggressively pay off the loan balance and then refinance the remaining principal
- Expect an increase in income or reduced expenses within the next couple of years
ARMS have instead been marketed to consumers who struggle to qualify for a prime fixed mortgage rate. They agree to the loan expecting the payment to stay low, and often do not fully realize that a rate reset could cause their monthly payments to increase substantially.
Most consumers should attempt to qualify for a fixed rate mortgage rather than risk rate fluctuations that come with an ARM. Otherwise, their mortgage payments could become unmanageable and they may have difficulty refinancing the loan if their credit is tarnished.
