An ARM And A Leg?
This article is about a kind of mortgage called an “ARM” which is an acronym for the phrase “Adjustable Rate Mortgage.” This kind of mortgage is quite popular because you can generally get an ARM at a cheaper interest rate than the prevailing fixed-rate mortgage interest rate.
And, when the interest rate is lower, you get a lower payment for a given mortgage loan term. And that, of course, means a better quality home in a better neighborhood and better schools, etc.
Give that fact, you might be wondering why I named this page “An Arm and a Leg.”
I did that because an ARM mortgage is somewhat like a genie.
With the genies of legend you may get 3 wishes. But, the genie will cause a problem with the wishes whenever possible.
That is the hidden side of the wishes.
For instance if you were to wish for a room full of gold, you might find yourself trapped inside the room and inside the pile of gold with no way out when the genie fulfilled your wish.
An ARM mortgage is somewhat like that. It also has a hidden, sinister side.
Adjustable Rate Mortgages are quite attractive because you frequently get a lower interest rate than the corresponding fixed-rate mortgage. That’s great during favorable economic conditions with low interest rates. But, when the interest rates begin to climb… Watch Out!
Watch out because when economic conditions change and the trigger for a higher interest rate on your mortgage occurs (The trigger is usually some interest rate-related indicator such as the prime rate) your mortgage payment will be recalculated based upon the new interest rate.
When that occurs and all other factors remain the same, your payment may increase dramatically. Often, it will increase enough to “blow you out” of your home because you can’t make your monthly payments anymore.
And, yes, when economic conditions improve, your payment will likewise be reduced. But, if your home has already been foreclosed (i.e. repossessed) it is somewhat irrelevant… if you get my drift.
In the 1980s, during a period of tremendous inflation, home mortgage interest rates skyrocketed to almost 20%. At that time, families with ARMs just couldn’t make their house payments anymore because they went up thousands of dollars per month. They lost their houses and their credit ratings and sometimes, due to the tension introduced into their homes, their marriages and families.
The bottom line?
If you are going to get an ARM be sure that you know what you are doing. Banks love ARMs because you assume all the interest-rate-fluctuation risk and, they may get your house back with a lot of equity in it which makes them even more money when economic conditions improve and they resell your property.
At time of this writing, I have an ARM-type mortgage. My house payment is now over $1,500 USD per month… several months ago, it was around $1,100/month.
As you can see, ARM mortgages, while helping you get a much nicer house than you could afford with a fixed-rate mortgage, may not be all they’re cracked up to be because you may lose “An ARM And A Leg!”