Buying a home can be a challenging task. But this task may not be as troubling for an individual who is financially able to buy a home. For the individuals who want to purchase a home but their finances are not where it needs to be, there are options that are available to assist the new homeowner. One of these options is the adjustable-rate mortgage. Home owners who have adjustable-rate mortgages suffer the most when short-term interest rates increase. These loans are typically used to help low income homeowners buy houses that they otherwise would not have been able to purchase because of not having enough income. Adjustable-rate mortgages or ARMs can be dangerous if you are not aware of the issues that are associated with this type of loan. Below is an explanation of why and how these loans should be avoided by all means necessary.
Placing a Number on the Problem
According to Alan Greenspan, a member and chairman of the Federal Reserve, people are doing all in their power to be able to pay for homes that they cannot afford. According to Loan Performance, in the San Francisco Bay area, more than half of the homes that were bought were purchased using interest-only loans. The increase in the prices of homes has increased because of the housing demand. The average price on a house is approximately $284,000 according to the Federal Housing Finance Board. A person or family wanting to purchase a home should be earning an average landing between $113,000 and $142,000. However, according to the 2003 Census Bureau, the household income has a median figure of $43,318.
Considering these numbers makes it apparent that a majority of individuals who desire to purchase homes are not financially able to do so. However, with the help of adjustable-rate mortgages, the impossible can become possible. ARMs give potential homebuyers low interest rates which are able to obtain through fixed-rate mortgages. The rate is set for a period of time which can be one to 10 years before it is either increased or decreased.
The Risk behind the Loan
Homeowners who have chosen to take out an adjustable-rate mortgage in an effort to buy a house that costs more than they can afford run the risk of dealing with what could have been avoided. While the rates involved are typically revealed before the purchase is complete, many homebuyers do not consider other requirements that are involved with adjustable-rate mortgages. Although the homebuyer is able to reap the benefits of having a low house payment, the ARM’s rate can eventually increase. The principal placed on the loan must be paid back as well. In the end, the resulting cost of the home can be financially unbearable. Below is a typical calculation behind an adjustable-rate mortgage:
In other words, if you decide to get a five-year adjustable-rate mortgage totaling $150,000 with an interest rate of 6%, your monthly house payment will be $750. However, after the five years will come the task of paying back the principal amount of the loan. With the figures above, that would put you with a monthly payment of about $967 after five years of paying just $750. That is a huge increase that many are not aware will take place. If your interest rate increases as well, the payment will be greater than that.
The Positives of ARMs
Adjustable-rate mortgages are not always a bad thing. ARMs are very valuable to individuals are have no plans of living in a house for no more than a couple years. ARMs can give individuals the ability to purchase a nice home at a low price. In this case, you may find that taking out an ARM loan would be more financially beneficial than taking out a fixed-rate mortgage. Whatever your reason for using an adjustable-rate mortgage, just beware of the risks involved in doing so.
In the housing economy, interest rates are steadily on the rise. Involving yourself with an adjustable-rate mortgage could be a potentially risky strategy, and interest-only ARMs could be dangerous. Because of the lack of equity that is built, your house payments are guaranteed to increase when the home is refinanced. Adding in the cost of utilities and other associated home expenses, the cost of your home could be a lot more than what you expected. In an attempt to avoid the risk, you must take an intelligent approach to avoid any troubling situations.
If you currently do not have an adjustable-rate mortgage, do not worry because you are not missing out on anything. If you currently have an ARM and plan to keep your house you are paying on, think about refinancing. Use all of these tips to fully arm yourself with the dangers associated with ARMs.