Key takeaways
- Calculate the maximum payment the ARM caps allow. Payment shock tolerance
- Expected income growth can make future payment changes more manageable, but plans change. Income outlook
- Relying on a future refinance assumes you will qualify and that the market cooperates. Refinance assumptions
Time horizon
If you expect to keep the loan beyond the ARM’s fixed period, a fixed rate removes payment uncertainty.
Payment shock tolerance
Calculate the maximum payment the ARM caps allow. If that payment would strain your budget, the ARM’s initial savings may not be worth the risk.
Income outlook
Expected income growth can make future payment changes more manageable, but plans change.
Refinance assumptions
Relying on a future refinance assumes you will qualify and that the market cooperates.
Middle paths
Longer fixed periods (seven or ten years) reduce adjustment risk compared with shorter ones.
Read the caps
For an adjustable loan, look at the initial adjustment cap, the periodic cap and the lifetime cap. Together they set the most the rate can change at each adjustment and over the life of the loan.
Index and margin
The rate after the fixed period equals an index plus a margin, subject to caps. Ask which index is used and what the margin is.
Stress test
Work out the payment at the highest rate allowed by the caps and ask whether your budget could handle it. If not, a fixed rate may be the safer choice.
Refinancing is not certain
Plans to refinance before an adjustment depend on future rates, home value, income and credit, none of which is assured.
General education only; confirm current rules with official sources and a licensed lender.
Sources
Sources reviewed .