Is A VA ARM Loan Right For You?
VA loans are one of the few options to buy or refinance a home with a 0% down payment. This special program offers a path to homeownership for the brave men and women that have served our country. While VA loans have different term options and many veterans opt for a fixed rate, a VA adjustable-rate mortgage, also known as a VA ARM, may be beneficial in some circumstances. Learn when and why to get a VA ARM loan below.
What Is A VA ARM?
Unlike fixed-rate loans, adjustable-rate mortgages (ARMs) feature interest rates that can change over time. VA ARMs begin with fixed rates that adjust periodically after the specified period, typically just once per year. Many lenders offer 5/1 ARMs for VA loans, which means the mortgage rate stays set for five years before changing once per year.
How Does It Work?
The most confusing thing about VA ARMS is understanding how the fluctuations or adjustments are made. All VA ARMs use an index called the constant maturity treasury. On the day of an adjustment, this number is added to a margin to generate your new interest rate. The new interest rate is what your payment will be based on going forward until the subsequent yearly adjustment. Each time your payment adjusts, your loan is re-amortized, i.e., your payment is recalculated based on the new rate and the number of years remaining in your loan term.
While an adjustable-rate mortgage may seem risky, there are caps on how much your rate can adjust up or down each year. A typical cap structure for VA loans is written 1/1/5. So the first time your rate adjusts up or down, it can do so by a maximum of 1%, each subsequent adjustment after the first can only go up or down 1%, and the rate can only go up or down a total of 5% throughout the loan.
Is It Right For You?
Before deciding if a VA ARM is right for you, it’s essential to consider both the positives and the negatives of this loan type.
Pros:
- Great for starter homes. First-time buyers can benefit from the lower fixed interest rate at the beginning of an ARM loan and then move to a new place before the rate adjusts.
- Great for paying down the principal. The lower fixed rate at the beginning of the loan could allow you to spend more toward the principal so that you have a lower balance to pay interest on by the time of your rate adjustment.
- Caps offer some stability. The interest rate can only go up a certain amount per year and a certain amount over the life of the loan, so it doesn’t go up by a shocking amount.
- You can always refinance later. If your financial circumstances change, you can refinance your ARM into a fixed-rate mortgage to regain the predictability that ARMs lack.
Cons:
- Lack of stability. You won’t have the same confidence with a fixed-rate mortgage about what your payment will be from year to year. It could go down, but it could also go up.
- Caps: Although the caps limit how much your payment can go up, they also limit how much it can go down. So, if the rate takes a big dive, you may not be able to benefit from it.
When choosing a mortgage term, you must look at your current and future financial position.
Ask yourself questions like:
- How do you expect your income to change over time?
- How large a mortgage payment can you afford today?
- How long do you intend to live on the property?
- In what direction are interest rates heading, and do you anticipate that trend to continue?
Bottom Line On VA Loans
VA Loans offer many Interest rate options, but the most well-known are fixed & adjustable-rate mortgages (ARMs). Fixed-interest rates are rates that do not change for the life of the loan. This means that your monthly payment will stay the same.
Adjustable-Rate Mortgages are loans with an interest rate fixed for a certain number of years and can adjust periodically for the remainder of the mortgage.
Most veterans choose fixed rates over ARMs because they will know what their monthly cost is for the mortgage term.