Beat High Fixed Rates with Adjustable Rate Mortgages

Beat High Fixed Mortgage Rates with ARMs

This year’s sharp rise in mortgage rates has created a hurdle for some potential buyers by increasing their monthly mortgage payments.

Buying a home as fixed rates for mortgages reach 7% has become more difficult, but buyers can opt for adjustable rate mortgages (ARMs), which carry lower interest rates, instead of the mortgage 30-year traditional fixed rate.

The average United States rate for a 30-year fixed mortgage is 6.95% this week, down from the previous week’s 20-year high of 7.08%, according to a Freddie Mac (FMCC). The price for an ARM 5/1that is, a 30-year variable rate mortgage with a fixed rate for the first five years, is 5.95%, a full percentage point lower, according to data from Freddie Mac.

“For buyers who are seeing their take home pay shrink due to rising prices and purchasing budgets shrink due to rising rates, the current real estate market remains highly unaffordable,” said George Ratiu, head of research. economical at Realtor.com.

As inflation remains at a 40-year high and the Federal Reserve tightens monetary policy to deal with it, mortgage rates could face further increases.

Higher mortgage rates, combined with a spike in home prices since the start of the Covid-19 pandemic, have made it harder for buyers to afford properties, Ratiu said.

“For this year’s buyer to receive the same monthly payment as last year, assuming an interest rate of 7%, the median house price would have to fall by 45%, to about 235 $000,” he said.

Different Types of Variable Rate Mortgages

There are several types of adjustable rate mortgages that offer lower rates.

ARMs tend to be fixed for five, seven or 10 years, meaning the mortgage rate only resets after that time. Resets are often capped at 1% or 2% and can decrease or increase, depending on the evolution of the economy.

About 12% of mortgage applications last week were for ARMs, according to the Mortgage Bankers Association.

“The rise in variable rate mortgages mirrors the sudden and sharp rise in fixed interest rates,” said Esther Phillips, senior vice president of Key Mortgage Services, a Schaumburg, Illinois-based lender. “ARMs have become popular again for a variety of reasons, but it’s hard to ignore the rapid rise in rates at levels not seen for more than a decade.

Lenders qualify applicants by measuring the potential mortgage payment against their income and other debts. Lower interest rates mean a smaller monthly payment.

“Adjustable rate mortgages can help consumers justify their purchase or keep the home they want to buy within their monthly budget,” Phillips said.

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Match the mortgage to the moving plans

Opting for an ARM instead of a 30-year mortgage is also a good strategy if the owner does not plan to stay in the house for more than five or seven years in order to upgrade to a larger house or move for work reasons. or personal.

“The shorter the fixed term, the more risk is associated with this loan program,” Phillips said. “For example, when you are looking at a 5-year fixed period versus a 10-year fixed period, the 5-year period is more risky since the rate could adjust five years earlier. For this reason, 7 and 10 year variable rate mortgages are generally more popular than 5 or 3 year fixed term mortgages.

Homeowners on a tighter budget should consider the higher amount of their monthly mortgage payments could be in the future, especially if interest rates rise.

In this current rate environment, rates are likely to fall once the Fed stops raising rates, which could be favorable for people choosing an ARM over a 30-year mortgage.

If you don’t know how long you could live in a house, an ARM might be a good option. But, if the house you are buying is one you intend to live in for many years, consider what the longer term ramifications are.

“I wouldn’t recommend getting an adjustable rate mortgage just because it offers a lower rate now without also considering your future and your exit strategy,” she said. “If the length of the fixed term doesn’t fit your lifestyle and plans, an ARM may not be the best choice. If a buyer buys their ‘forever home’, the risk of a ARM of 3 or 5 years may not be worth it.”

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