The DL on ARMs

The real estate industry is positively filled to the brim with acronyms and lingo that can confuse even the most seasoned homebuyer. We’ve got another to add to the heap: ARMs. What? Adjustable rate mortgages, that is. And they are something swarms of people are turning towards now that mortgage rates have doubled since last year. 

As reported by National Public Radio (NPR), inflation and “the Federal Reserve’s moves to fight it have pushed up mortgage rates to the highest level since 2008. That’s made adjustable rate loans more attractive, with the share of people applying for such loans at the highest level in 15 years.” So what do all these people know about ARMs that we don’t? 

The idea is simple: a home loan with an interest rate that adjusts over time based on the market. They can be really tempting at first because they can often be a full percentage point lower than traditional 30-year loans, and when rates are near 6%, that spells big monthly cash savings. 

The catch?

So… what’s the catch? There’s more risk. The way most adjustable loans work these days is that they’re fixed for either five, seven, or 10 years and then they adjust to wherever rates are in the market. They definitely come with more risk than fixed rate loans. The way NPR explains it is this: 

The reason adjustable rate loans have a lower interest rate is that the bank or lender is passing on some of the risk of higher interest rates in the future to you the homeowner. The lower rate is in effect your compensation for taking on that risk.

“When you get a fixed rate loan, if mortgage rates rise after that, that’s the lender’s problem,” says Lewis [a financial writer for NerdWallet]. “If you get an adjustable rate loan and mortgage rates rise, that’s your problem.”

Whether you can afford the risk depends a lot on your financial situation, dedication, and determination. If you commit to aggressively paying down your principal for the first 7-10 years, then if the rates do go up, your overall loan size is much less. Regardless, before embarking on the ARM journey, speak to your financial advisor to determine whether the risk outweighs the reward.