An adjustable rate mortgage (ARM), also called a variable rate or tracking mortgage, is a lending tool whose interest rate can be adjusted periodically. One common form of this mortgage type is the 5-year ARM mortgage. Understanding the purpose of the 5-year ARM mortgage as well as its benefits and drawbacks is essential to finding the best adjustable rate mortgage to fit your financial needs.
The 5-year ARM mortgage is used to make the process of obtaining financial funding easier. Lending institutions are sometimes hesitant to loan money at a fixed rate during times when the interest rate is low because of the risk involved. The 5-year ARM mortgage provides an incentive to lenders because the adjustable interest rate allows them to refinance the mortgage at a higher interest rate if the index rises. By offering adjustable rate mortgages, lenders are able to offer loans to stimulate a struggling economy while spreading some of the associated risks to the consumer.
While the 5-year ARM mortgage offers an incentive to lenders, it also presents benefits to borrowers. A 5-year ARM mortgage allows consumers to obtain funding more easily and to see a lower initial payment than those associated with fixed rate loans. The benefits associated with the adjustable rate mortgage can also be a liability for consumers, though. If the interest rate rises, a borrower may see rapid increases in the repayment schedule.
To minimize the risks associated with a 5-year ARM mortgage, consumers should perform careful research and find answers to questions before signing any loan agreement. The borrower should understand that different lending institutions offer loans based on a variety of standards and methods. The way interest rates are calculated, additional penalties for missed payments, or early repayment of the loan should all be carefully considered when choosing the best 5-year ARM mortgage for an individual's specific needs. It is important that borrowers understand exactly how the interest rate may be adjusted, including any teaser periods of extremely low interest rates, to make an informed decision on borrowing money.
Lending institutions will usually set the interest rate of an adjustable rate loan in accordance with a current index. The index may be directly applied, meaning the interest rate will be exactly the same rate as the current index. In other cases, the interest rate may also include a margin of interest a few points above the current index rate. Some lenders also offer adjustable rate mortgages that do not rely on the interest rate offered by the index but are effected by fluctuations in the index. These movement-based mortgages have an established initial interest rate that is agreed upon by the lender and borrower and is then adjusted up or down according to the movement of the index.