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Is an adjustable rate mortgage right for you?

Posted on October 18, 2010 by Ray Williams.

Right now interest rates are at historical lows. If you are in your home to pay it off and retire, then this probably may not apply to you. But if you have owned your home 5 or so years, are younger, and plan on selling then here is some food for thought.

If you took a 5% 30-year fixed rate mortgage, the principal and interest would be $1,073 on $200,000 for a fixed rate mortgage. And in 7 years you would owe $175,890 assuming all things equal. Now if you had a strong inclination you would be selling your home in the next 5-7 years, you could think about leverage by taking a 7 years fixed rate adjustable mortgage. At 3.25% you would be looking at $870 for the next 7 years for principal and interest, and a balance of $169,000 at the time it came up for adjustment.

However, if you took the $200 (payment savings 7-year versus 30-year fixed) per month and sent it in as additional principal, you would owe $150,202 at that time. At the end of 7 years making the identical payment, you would have built an additional $25K in equity (difference in balances for fixed versus adjustable) in your home.

There are protective measures in place on adjustable rate mortgages called “caps”. These are the maximum changes you could see at your initial, or periodic adjustment, and for the life of your loan. Therefore, reducing the risk of payment increases down the road. But think about it. If you don’t plan on paying your house off, why are you paying higher interest on your money?

An adjustable rate mortgage is not right for everyone, but if you are disciplined with your money you can take advantage of the opportunity to create additional equity before you sell your home.

~Ray

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