If you're shopping for a mortgage, you'll need to choose between a fixed-rate mortgage (FRM) and an adjustable-rate mortgage. An adjustable rate mortgage (ARM) might seem like the best option because of low introductory rates and flexibility. However, there are some disadvantages to ARMs to consider carefully. Here are some of the main pros and cons of adjustable-rate mortgages:
ARM pros
- Low intro rates: An ARM usually offers a very low-interest rate for a fixed amount of time at the beginning of the loan. Depending on the terms of the loan, this means you'll have the same low rate for the first several years before the payments increase. This is a major advantage for monthly budgeting: your payment will always be the same amount during that period.
- Flexibility: ARMs can be good choices for homebuyers who expect their lives to change within the next few years. For example, if you plan to change careers, start a family or sell your home for any other reason, you're free to do so during your fixed-rate period.
ARM cons
- Payments will likely increase: Once your fixed-rate period is over, your interest rate will change--often for the worse. If interest rates in the market have risen since buying your home, you'll have to start paying at the new rate at the end of your intro period. Not only will these payments be larger, but they won't have any guarantee of remaining the same. This can make budgeting difficult.
- Prepayment penalty: A prepayment penalty is a fee that the lender can charge if you either refinance the loan or sell the home. Unfortunately, these penalties are commonly included in ARM terms. If you decide to move within the first five years of your mortgage, you could end up paying a steep penalty.
Mortgages are complicated, and the more you understand about your options, the more comfortable you'll be in your financial decisions. When choosing between an FRM and an ARM, consider these pros and cons to choose the best fit for your situation.
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