Homeowners

Looking to Save Money? You May Want to Refinance Your Home Loan to an Adjustable-Rate Mortgage

Most people don’t like uncertainty, especially when it comes to their finances. So, they may shy away from adjustable-rate mortgages (ARMs) because the mortgage interest rate changes over time.

However, ARMs often offer big savings in the first few years of the loan. That’s because the initial mortgage rates for these loans are generally lower than those for fixed-rate mortgages.

This may make refinancing into an ARM an attractive option for homeowners trying to cut down on their monthly expenses.

“Getting a lower interest rate lowers your payment,” said Ray Williams. He is New American Funding’s executive vice president of the Consumer Direct Division. “[This] improves your cash flow.”

So, what should homeowners consider before refinancing into an ARM?

Lower mortgage rates equal lower monthly mortgage payments

An ARM is different than a traditional, fixed-rate mortgage. With an ARM, you start out with a lower interest rate during the introductory period. This is typically the first five, seven, or 10 years of the loan. Then the mortgage rate adjusts to whatever the current rates are, up to a certain cap.

Once the rate resets, many homeowners refinance out of an ARM and into a fixed-rate loan where their rates don’t change.

However, those hoping to save money may want to consider doing the opposite. Those refinancing into an ARM can often secure a lower interest rate for the first years of the loan.

The interest rate on an ARM can be around a full percentage point, or perhaps even a percentage point and a half, lower than for a fixed-rate mortgage. That can add up to substantial savings in the first few years of the loan.

And it’s not a guarantee that the rate will rise when the initial period ends.

“Lots of people think the interest rate can only adjust one way, up,” said Williams. But the rate will adjust either up or down depending on current market rates.

Should you refinance your home loan into an ARM?

One of the main factors when deciding whether to refinance from a fixed-rate mortgage into an ARM is how long you plan to stay in your home.

If you expect to move before the reset date, then refinancing into an ARM may be a smart move. That’s because you likely won’t have the mortgage by the time your rate adjusts.

However, many people think they’re going to stay in their home longer than they actually do, said Williams. So, they choose a fixed-rate mortgage.  

“They could have enjoyed a lower interest rate and lower monthly payment by refinancing into an ARM,” said Williams.

If interest rates are higher when the rate resets, homeowners may be able to refinance into another ARM.  

“The reality is that almost nobody is going to stay in a 30-year, 7% mortgage for 30 years, even if they have a 30-year loan,” said Williams. “Instead, most people are going to refinance when rates eventually fall.”

Some people hesitate to get an ARM because they think that these loans can get them in trouble, similar to what happened during the Great Recession in the mid-2000s.

“A lot of complicated and confusing loan products were introduced back then that ended up contributing to the crisis,” said Williams. New rules have been put in place since the financial crisis to protect homebuyers. “Today’s ARMs are much safer than those products,” Williams added.

Know when it’s the right time to refinance your mortgage

The downside to refinancing from a fixed-rate loan into an ARM is that homeowners need to be more proactive in managing their mortgage. This means they should stay on top of what’s happening with mortgage rates, especially when their loan is set to adjust.

“With an ARM, you can’t just ‘set it and forget it,’” said Williams.

While it may make sense to make a long-term commitment to a home, the same may not hold true to a mortgage. Instead, homeowners may want to refinance into new loans in the future to lower their housing payments.

“Managing your mortgage effectively can save tens of thousands of dollars in interest over the life of your loan,” Williams said.

Ray Williams NMLS # 270010