If you are in the market to refinance your mortgage the type of interest rate you should choose depends on your situation. If you can afford a higher monthly payment and plan on keeping your home for at least seven years or if you have little tolerance for financial risk, consider a fixed interest rate mortgage.
If you cannot afford your mortgage payments for now but expect your income to increase in the near future consider an Adjustable Rate Mortgage as a short-term solution. Many homeowners get themselves into trouble because they do not foresee their income going up and purchase more home than they can afford. It’s better to have a solid plan in place today and save yourself the sleepless nights and financial hardship of losing a home you never should have purchased in the first place.
If you expect to be moving within seven years you could save yourself some money with an Adjustable Rate Mortgage or even a hybrid ARM. You could structure the Adjustable Rate Mortgage so it will not reset until after you’ve sold your home. This essentially eliminates all of the risk associated with Adjustable Rate Mortgages. If you take this approach when refinancing make sure the points you’re required to pay do not offset your savings; also, make sure the loan does not include a prepayment penalty that will be enforced when you are ready to sell your home.
When evaluating Adjustable Rate Mortgages for a home you plan on keeping for longer than seven years there are several factors you need to consider before refinancing. The index, margin, and caps all affect your payment and the amount of risk associated with your loan. The index your Adjustable Rate Mortgage is tied to plus the lender’s margin determines what your interest rate will be when the lender makes adjustments.
Caps are safety features that protect you from sudden increases in your interest rate and payment amount. Periodic caps limit how much your mortgage rate can go up or down during an adjustment or over the lifetime of your loan. Payment caps limit how much your monthly payment can go up or down during any single adjustment or over the lifetime of your loan. It is important to structure your loan with both periodic and payment caps; improperly structured Adjustable Rate Mortgages are prone to negative amortization (a loan that grows over time) when the change in your payment amount does not allow for all of the interest due in a given month.
The risks associated with Adjustable Rate Mortgages come from the possibility of experiencing payment shock. When the lender stars adjusting your loan you could wake up with a double digit interest rate and a payment you can no longer afford. You can learn more about your mortgage refinancing options, including costly pitfalls to avoid with my free mortgage toolkit. Register today by clicking the DVD at the top of this page.