Option ARMS - When Are They a Good Choice?

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Author: Patricia Adkins

Article source: http://www.articledeshboard.com/. Used with author's permission.

An Option ARM (adjustable rate mortgage) offers four different payment options to borrowers every month. The purpose of these loans is to lower mortgage payments and provide more flexibility to borrowers. The first option is calculated using a thirty year amortization table; the second choice calculates payments based on a fifteen year amortization table; the third is an interest-only payment option which does not reduce the loan amount at all and the fourth option requires a minimum payment. The minimum payment amount is calculated on an often artificially low initial interest rate. Unfortunately this can be financially disastrous because as the interest rate rises, the monthly payment does not cover the real cost of borrowing and the gap is added to the principle. This means that the loan amount grows and borrowers can find themselves owing substantially more than they initially borrowed. This is called negative amortization.

Option ARMs may be appropriate loans for investors who plan to flip their properties for quick profit or homeowners who plan to refinance in the short term, however they can be a risky choice for purchasers seeking to purchase a home which would be beyond their means using traditional loans. Many new borrowers are finding themselves in serious financial trouble as a result of using an Option ARM to buy their homes and increasing numbers are losing their homes as a result.

While the "minimum payment" option can cause a blow-out in your mortgage balance, the other ARM options can lead to a payment crisis because your payments can increase dramatically with increases in interest rates. Considering that most people who choose an Option ARM mortgage do so because they cannot afford to borrow using a traditional loan, these payment increases can lead to foreclosure and even bankruptcy.

Before choosing to borrow using an Option ARM, it is very important to understand the terms of the loan and the associated risks. If you can't afford increases to your monthly payment or need a lower payment for a long period of time, do not take out an Option ARM. However, if you intend to turn over the property quickly or need lower payments for a short period of time and then can refinance, an Option ARM may be a good choice.

Visit www.FreeConsumerService.com for more articles and resources on mortgages and real estate. ABOUT THE AUTHOR: Patricia Adkins is a specialist on the subject of mortgages and real estate. Her web site, www.FreeConsumerService.com, provides a wealth of informative articles and resources on everything you'll ever need to know about getting the best deal when you buy a home or refinance your existing mortgage.