Wait! Before You Ditch That ARM, Make Sure Your Mortgage Rate Won't Be Adjusting Lower

Homeowners with ARMs often assume that they have to remortgage when their home loan reaches the end of its fixed-rate period.  They automatically think their mortgage will adjust higher and that a new mortgage could provide payment relief.

Looking at the chart above, we can see how that type of thinking can be costly.

Adjustable-rate mortgages work like this:  For some fixed amount of time, the mortgage rate is constant.  Then, when the fixed time periodis over, the rate resets to a new rate based on a math formula.  On each subsequent anniversary, it adjusts again.

The math formula by which an ARM's adjusted rate is calculated is clearky defined in a mortgage note and -- simplified -- looks like this:

(Adjusted Interest Rate) = (The Variable) + (The Constant)

Where:

The Variable is the current 12-month LIBOR rate, or 1-year T-Bill rate
The Constant is some pre-determined number, generally 2.25 percent

Today, LIBOR is 3.015 percent so if a 5-year LIBOR ARM adjusted this morning, the newly-adjusted rate would be 5.250 percent. 

Not only is this a quarter-percent lower than today's 5-year ARM "market" rate but -- because it's not a new mortgage origination -- the adjusted home loan is not subject to closing costs or risk-based fees.

Since the Federal Reserve started its rate-cutting cycle, it's been increasingly attractive for homeowners to let their ARMs adjust to the new market rate. 

That doesn't mean it's the right thing to do in every situation.

When considering a remortgage, you have to consider your home loan in the context of your overall short- and long-term financial goals.  For example, letting your mortgage adjust to the market may be a smart decision for this year, but foolish for the years ahead.

Understanding your options is the first part of the puzzle.  Before you reflexively dump your ARM, check with your loan officer first.