What is an Adjustable-Rate Mortgage?
An adjustable-rate mortgage, which is also called a variable-rate or a tracker mortgage, is a mortgage loan with a fluctuating interest rate. Unlike a fixed-interest mortgage, the interest rate in an adjustable-rate mortgage (ARM) changes over the loan’s lifetime. The interest rate can be adjusted monthly or annually, which means that mortgage payments for your Las Vegas home loans can change over time.
How an Adjustable-Rate Mortgage Works
An ARM is generally displayed as two numbers. The first number shows the loan’s introductory fixed-rate time period. The second number is the frequency at which the interest rate changes. One of the most popular adjustable-rate mortgage options is the 5/1 loan. In this arrangement, the introductory rate lasts for five years. After that, it is subject to change on an annual basis (the “1” indicates how often the rate can change). The 5/1 loan is not the only one available, however. Some ARMs have loans with introductory periods of three years or less, while others have introductory rates of up to 10 years. While the two numbers tell you how long the loan’s introductory rate is, indexes and margins tell you how much you will have to pay. The index rate is a secondary interest rate that starts when the fixed-rate period ends. The rate is dependent largely on market performance. Index rate is determined by the margin, which indicates the number of percentage points by which an interest rate can change. For instance, an index rate of 4% plus a 3% mortgage rate means that the mortgage’s interest rate can change by 7%. To protect the borrower, many ARMs have cap rates, which are set for both interest rate periods and the loan’s overall lifetime. Cap rates act as a ceiling for the interest rate to ensure it doesn’t rise too high.
Pros and Cons of an Adjustable-Rate Mortgage
Like other kinds of mortgages, ARMs have advantages and drawbacks. A major benefit of ARMs is that they have much lower introductory rates than fixed-rate mortgages. For that reason, ARMs are a popular choice for homeowners who are considering moving in the next seven years. You may also be eligible to take out a higher loan amount with an ARM than you could with a conventional fixed-rate loan. Finally, loan rates and payments may decrease based on margin and index rate. Alternatively, ARM interest rates and payments can also increase for your Las Vegas home loans in a given period of time, which in turn increases your monthly or yearly payments. Because the interest rate changes, it is very difficult to predict what your payments will be in successive rate periods. Furthermore, there is always the possibility of an error in interest rate calculation.