Is an Adjustable Rate Mortgage Smart? In this article, we will take a closer look at VA ARMs and hopefully help you decide if an adjustable-rate mortgage is right for you. Everybody loves the 30-year fixed mortgage. The history of the 30-year goes back to the Great Depression and it was made to take care of the banks. Before that, mortgages were short-term, but then the housing market collapsed so the government stepped in and created the 30-year fixed.
Why? Back then, individuals usually only worked for 30 years, so the idea was for someone to pay off their mortgage just in time for retirement. But that isn’t at all how things work today.
Why is an Adjustable Rate Mortgage (ARM) smart?
What Can Be Negative about the 30-Year Fixed?
First off, with the 30-year fixed mortgage, you will end up paying a lot in interest because the life of the loan is so long. But here are a couple of other things you might not think about when you have a 30-year fixed:
- Your Homeowners Insurance Goes Up
- Your Property Taxes Go Up
These are a couple of things that can happen while you’re in a 30-year fixed. Very rarely does your homeowner’s insurance and your property taxes go down, and if they do, then that’s great. But for the most part, when these go up, then you’re left with a larger monthly mortgage statement.
We’ve talked to veterans who have had Escrow shortages and sometimes their payments increase by $200-$400 a month.
What Can the VA ARM Do?
Are you skeptical about an ARM? Here are some things to keep in mind before you dismiss the ARM altogether.
The VA Hybrid ARM was created by the Department of Veterans Affairs. Remember, the VA is there to help all veterans by making sure they buy homes that are safe, sound, and sanitary. And the VA is the one who guarantees the loan – protecting the lender against loss and providing assistance to the veteran if they run into problems with their mortgage.
Would the VA create a hybrid loan that would put a veteran at a disadvantage? Simply put – no, they wouldn’t.
3 Key Safety Features of the VA ARM
The first thing we should note is that VA ARMs are typically hybrid loans which means they’ll have an initial fixed rate period. The most comon is the VA 3-1 ARM and the VA 5-1 ARM. The fixed rate period on an ARM has a lower interest rate than a regular 30-year fixed.
For example, let’s say you got a 30-year fixed at a 4.75% interest rate. You could potentially get into a 3/1 ARM with a fixed 3% interest rate (fixed for three years then it adjusts annually) and save 1.75% interest. So if you had a $250,000 mortgage with the 4.75% and converted to the 3/1 ARM at 3%, it would save you $200 a month.
That money saved could go back to your principal loan amount and accelerate your balance reduction, and this could save you money in the long run.
Here are the three safety features to the VA ARM:
- Index – The index is not set by the lender. The VA has set up the VA ARM with a conservative index. They use a 12-month average of the one-year Constant Maturity Treasury (CMT). What this means is it takes the average of the index (each month a new index is published) and your new mortgage is based on the average of the published indexes, which means there will be no big spikes in your payment after your fixed rate period ends. That’s what sets a VA ARM apart from a conventional ARM.
- Annual Cap – The annual cap for the VA ARM is capped at 1%. This means that after your fixed rate period is up the most your interest rate could go up is 1%. Let’s use the same example above and you have that 3% interest rate for your fixed period. So after your fixed period is up, the 1% annual cap means that your interest rate can only go up to 4% which means you’re still lower than that 4.75% you had with the 30-year fixed.
- Lifetime Cap – The lifetime cap for the VA ARM is capped at 5%. This means that if the index kept increasing on the life of your loan, that 5% cap would keep you safe from paying too much. But, realistically, indexes don’t go up and up and up. They’ll usually go up, then down, then up, then down, keeping a pretty steady motion.
Remember, ARMs may not be the best solution for everyone, and we know that. We encourage you to call us here at Low VA Rates (855-223-0705) and speak with one of our military mortgage experts.