Pros & Cons of an Option ARM Mortgage

An option ARM (adjustable-rate mortgage) is a popular type of mortgage offered by many different lenders across the country. Here are some of the pros and cons of an option ARM. 

Pros

One of the most attractive features of this type of mortgage is the low initial interest rate on the loan. You will typically be offered an interest rate that is well below the market rate in the industry. Sometimes, you will be able to find initial interest rates as low as one percent. The initial rate period will differ from loan to loan. However, there will be a certain amount of time when you initially take out the loan that you can take advantage of this low interest rate.

Another attractive feature of this type of mortgage is the minimum payment feature. This type of loan will allow you to choose your monthly payment for a certain period. There will be a minimum monthly payment that is actually less than the interest on the loan. By choosing this monthly payment, you will be able to save money for a certain period. This can provide you with a lot of flexibility when it comes to the beginning of the mortgage period. 

Cons

Although the option ARM has some attractive benefits, there are also some negatives to be aware of. One thing to watch out for with this type of mortgage is negative amortization. Negative amortization is something that occurs when you are paying less than the interest that is accrued on a monthly basis. When this happens, the interest that is unpaid will go directly on to the balance of the principal. This is essentially increasing the amount of money that you are borrowing as you go. If you do not pay attention, it is very easy for the loan balance to get out of control. Later on, this can cause your mortgage payment to be much more than you can afford. Negative amortization has led to the financial ruin of many individuals who did not pay attention to it.

Another negative about this type of mortgage is that the interest rate is tied to a financial index. This means that your interest rate can increase significantly after the initial fixed interest rate period. If the interest rate moves up significantly, your mortgage payment will increase as well. In some cases, when the financial index moves up, this can cause your payment to double over the course of a few years. For many people, this creates a scenario in which they cannot afford their mortgage payment any longer.

With the option ARM, another problem is that many people do not focus on long-term implications. They simply look at the low interest rate and the low minimum payment and do not think about what will happen if things change. You should take on this type of loan only if you fully understand what could happen in the future.

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