Reducing The Risk Of An Adjustable Rate Mortgage

By now you have likely heard a horror story of some home owner who got stuck in an

adjustable rate mortgage as a result of losing his or her job while their house value plummeted so low that they could not refinance. Does this type of thing happen? Sure it does. Still, there are hundreds of thousands of homeowners out there who may benefit from an adjustable rate mortgage product.

Over the past year, mortgage rates have been at or near historic lows making refinancing extremely attractive. There are a couple of major questions that a consumer should ask themselves before deciding whether an adjustable rate loan might be right for them.

First off, will he or she be able to handle their monthly debt obligations in a worst case scenario? Meaning, if one gets stuck in his or her mortgage while it adjusts upwards to its maximum cap, will they be able to stretch their finances to cover the mortgage payments and all other bills. If the answer is "no", they may want to go with a more conservative fixed rate mortgage product.

In order to reduce potential downside risk, consumers with less than ten percent equity should think long and hard about taking out an ARM mortgage especially in declining real estate environments. If you lose what equity you do have, you may be hard pressed to find a mortgage lender who will offer you refinancing assistance.

Another way to reduce potential volatility is to consider a longer term ARM product such as a 7 year or 10 year adjustable rate mortgage. These products will allow you more time to pull the trigger on a refinance as well as give you a couple of extra years to see if you will even remain in the home beyond the introductory rate period. The downside to 7 year ARM and 10/1 ARM programs is that the introductory rate is often greater than it is with 3/1 and 5/1 ARM programs.

You may also be able to lower your level of risk by seeking out an adjustable rate mortgage program with more conservative adjustment caps and margins. For instance, one adjustable rate mortgage program may have an initial adjustment cap of 2% while another might have one of 3%. The introductory rate of the more conservative ARM program may not be as low as the more aggressively priced loan, but you may sleep better at night knowing that your loan is not at risk for such a substantial increase.

It should also be pointed out that there are times when ARM rates are actually higher than their fixed rate counterparts. This was the scenario only a couple of years ago. A qualified, licensed mortgage professional should be able to help you weigh your options, asses your tolerance for risk, and help point you towards programs that best fit your personal needs. Always be sure to check the credentials of the mortgage professionals and companies that you are considering working with. You can do so by contacting the company's licensing authority or through such services as the Better Business Bureau.

by: Nat Criss

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