Should I Apply for an Adjustable Rate FHA Mortgage?
What is an FHA Adjustable Rate Mortgage (ARM) Loan?
HUD 4000.1, the FHA loan handbook, explains that an ARM loan is a mortgage “...in which the interest rate can change annually based on an index plus a margin”. The lender is required to explain this process and have the borrower sign a disclosure signifying that the explanation has been made.
How FHA ARM Loans Work
Your participating lender will establish the initial rate, sometimes called a teaser rate, and margin which must stay constant for the duration of the loan. FHA loan rules require the rate to remain stable for an initial period that may last between one and ten years depending on the loan.
After this period, the interest rate may change annually for the remainder of the mortgage term. According to HUD 4000.1:
- 1- and 3-year ARM loans “may increase by one percentage point annually after the initial fixed interest rate period, and five percentage points” for the duration of the loan.
- 5-year FHA ARMs “may either allow for increases of one percentage point annually, and five percentage points over the life of the Mortgage” or these increases may consist of “two percentage points annually, and six points over the life of the Mortgage”.
- 7- and 10-year ARMs are permitted to go up by two percentage points annually after the initial period, and six percentage points for the duration of the home loan.
Having a strategy for an ARM loan is the best approach. Borrowers who don’t plan on staying in the home long-term would be better served by an ARM loan with an introductory rate that lasts as long as their plans to keep the home, or expires within a reasonable time before or after the borrowers sells or transfers the property.
In other words, ARM loans are good if you don’t plan to be in the mortgage long enough to weather multiple rate increases over the lifetime of the mortgage.
If you’re considering buying a property with an ARM loan then refinancing into an FHA fixed rate mortgage, (or plan to sell the property before the rates begin adjusting too much) you’re on the right track in terms of thinking about home loan strategy for an ARM loan.
It may be helpful to discuss your long-term home ownership plans with a participating FHA lender first to see what advice the lender has about adjustable rate home loans versus fixed rate and whether your goals are compatible with an ARM loan in the short to mid-term.
Understand the Reasons for Private Mortgage Insurance
Carefully Read Your Closing Disclosure
Buying a Home With a Co-Borrower
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