No regrets about getting an ARM despite high mortgage rates

On August 1, 2020, I took out a 7/1 Adjustable Rate Mortgage (ARM) at 2.125%. I could have gotten a 30-year fixed-rate mortgage at 2.75%. However, I wanted to save 0.625% interest.

Years later, mortgage rates have skyrocketed due to the pandemic, massive stimulus spending, a war in Ukraine and supply chain problems. Inflation hits 40-year high in June 2022

Why I’m OK with an ARM Despite High Mortgage Rates

In 2020, we had our second child and wanted a completely remodeled home for our family to live in. We lived in a house that was in the middle of a long gut remodel. I thought the remodeling was going to take longer than expected, so I decided to jump on a good house.

I fully agree that I do not expect inflation and mortgage rates to rise as much as we have seen in 2022. However, despite the high mortgage rates, I have no regrets about getting an ARM.

I know I’m in the minority and I get heat for my opinions. But hear me out.

1) I save money with ARM

Instead of paying 2.75% for a 30-year fixed mortgage, I pay 2.125% for a 7/1 ARM. Every year, I save almost $10,000 in interest costs.

Over a seven-year fixed term, you can save ~$62,000 in total mortgage interest costs. Saving money is great, not bad!

Even though I will have to pay a higher mortgage rate after my ARM expires, I have a $62,000 buffer before I start paying more due to getting an ARM. I reckon that time will begin Eleventh year of my ARMEven with mortgage rates at their current highs.

Adjustable loans are the percentage of total mortgage loans that are ARMs

2) The house appreciated in value

Buying a home in mid-2020 turned out to be a smart move. Even after a 5% – 10% decline in 2022, home values ​​have risen by $300,000 – $500,000.

Saving money on mortgage interest costs and enjoying higher home prices feels lucky. Rising house prices Dwarves Increased mortgage payments I owe after my ARM expires.

If the home depreciates, I’ll feel better knowing that I’m paying less mortgage interest than I should. But of course, I won’t feel better.

3) There are limits to ARM interest rate increases

All ARMs must have a cap on how much the mortgage rate can increase in the first year after the fixed-rate period ends. There are limits on interest accrual in subsequent years. There is also an increase in the maximum mortgage interest rate limit for the loan.

For me, my mortgage rate can go up to a maximum of 2% in the eighth year, another 2% in the ninth year, and a maximum interest rate of 7.125%.

Below is an example of an ARM interest cap of $850,000, a 5/1 ARM with 2.375% accrual.

ARM interest rate increase limit

As you can see from the example above, mortgage increases can go up to a limit each year. So, you can model possible worst-case scenarios in the future to see if you can afford your mortgage.

Fortunately, most people get raises and grow their net worths over time. As a result, they can better handle higher payments in the future.

4) The mortgage principal is paid over time

Each month, $3,450 of my mortgage payment goes toward paying down the principal. In 84 months, when my 7/1 ARM expires, I will have paid about $330,000 in principal.

If mortgage rates were higher in the eighth year, I would pay a higher mortgage interest rate of up to 4.125% per year. But I would pay ~20% interest on a lower mortgage balance.

As a result, my actual monthly payment will only increase by approx One percent. Even if my mortgage interest rate increases by another 2% to 6.125%, my monthly mortgage payment will increase by approx. Nine percent.

A worst-case scenario of paying one percent to nine percent more in years eight and nine may not be noticeable. The average worker earning a two percent raise a year can easily afford these higher payments.

5) Refinance option available

No one knows the future. However, I have the option to refinance before my ARM expires on August 1, 2027.

I can’t afford to refinance at a similarly low rate of 2.125%. However, there is a good chance that I can refinance to another 7/1 ARM below 4.125%, which is lower than the maximum mortgage rate of my first year adjustment.

If I can refinance with a lower rate and no cost, even better. Even if you pay a higher mortgage rate on a no-cost refinance, you still win if the mortgage rate is attractive. Also, you retain the option to refinance without being deemed to have paid the refinance fee.

I believe the long-term trend for inflation and interest rates is down. We have already seen inflation peaking in June 2022 and declining every month thereafter. Between now and August 1, 2027, I am sure there will be another window to refinance at an attractive mortgage rate.

Below is a chart showing the historical trend of the average 30-year fixed-rate mortgage. Prices have been falling since the 1980s.

CPI inflation and the 10-year Treasury yield

6) The ARM’s fixed-rate term matches my ownership term very closely

If I thought I was actually buying a permanent home in the mid-2020s, I would have been more interested in taking out a 30-year fixed-rate mortgage and paying it off sooner rather than later. Instead, I got a 7/1 ARM because we were unlikely to live in the house for more than seven years.

Based on my home ownership records, we move every two to ten years as I am an avid investor in real estate. My holding period today is shorter than the average home ownership period of around twelve years.

I believe buying a primary residence, renovating it, living in it for at least two years, getting home tax free up to $250,000/$500,000, renting it out, and then buying another home. In a typical lifetime, a typical family can accumulate a portfolio of four rental properties by age 60 and retire comfortably on rental income.

Since 2003, I’ve been buying middle-class homes because that’s what most families can afford. I believe this is a great way to invest in real estate. Investing in luxury property does not yield high return on investment.

Although I love our current home, I would be disappointed if we were still living in it seven years from now. This meant we would not have moved to Oahu. It meant that we lived very frugally. In seven years, the home will depreciate to less than ten percent of our net worth.

As someone who has entered the accumulation phase of his life, my goal is to spend more money and spend less. And one of the easiest ways to spend money is to own a beautiful home.

7) The worst case scenario of overpaying is not so bad

The savings I’m accumulating from having the original down payment and a seven-year adjustable-rate mortgage means I’ll have a bigger buffer if mortgage rates rise in the eighth and beyond. But let’s say mortgage rates rise over the long term after my savings buffer is depleted. No big deal.

Ten years after I first took out the 7/1 ARM, chances are my net worth will be higher. This usually happens when you keep saving and investing. For most workers, I believe the majority will continue to have high incomes and net worths in the future.

In a high-inflation, high-mortgage-rate environment, we’ll also get high risk-free returns from Treasuries, CDs and money market funds. For example, today we can all earn more than 5% risk-free on one-year Treasury bonds. Not a bad way to ride an inflationary wave.

Even if your absolute mortgage amount goes up, you’ll be better off if your mortgage payment as a percentage of your income goes down. There’s a reason I encourage everyone to follow my 30/30/3 home buying rule.

8) An ARM encourages me to grow more wealth over a period of time

One of the reasons I like ARMs is that they motivate me to pay off the loan faster. When you have a short time frame to get something done, you tend to focus more.

If I had a 30-year fixed-rate mortgage, I wouldn’t work as hard, pay attention to my finances, or intentionally pay off debt. With a 5/1, 7/1, or 10/1 ARM, I consider the introductory fixed-rate term a Deadline Earn as much as possible and/or pay off the mortgage as much as possible.

One of the main tenets of Financial Samurai is to achieve financial freedom as soon as possible. It takes thirty years to pay off the mortgage Not the way. ARM motivates me to take extra steps to protect my financial future.

Congratulations to everyone who refinanced or got a new mortgage down under

Refinancing or taking out a mortgage in 2020 or 2021 is one of the best financial moves of all time. It’s hard to see mortgage rates returning to those levels.

Whether you’ve got a 30-year fixed-rate mortgage or an adjustable-rate mortgage, enjoy knowing you’ve got a historically low rate. The dual benefit of living cheaply while enjoying rising property prices is fantastic.

While paying off your home may not be fun in the long run, when you finally do, you’ll appreciate that you were able to borrow so cheaply. Your home will also appreciate over time.

Despite rising mortgage rates, my preference for adjustable rate mortgages hasn’t changed. Based on my 20+ years of investing in real estate, I don’t want to put more money into debt than I have to.

Reader Questions and Answers

Anyone regret getting an ARM? If so, why? Does anyone regret getting a 30-year fixed-rate mortgage? If so, why? Do you think mortgage rates and inflation will rise in 2027 and beyond?

If you’re looking to refinance or get a better mortgage rate, shop online at Reliability. Reliability has many lenders who will provide genuine quotes and compete for your business. See what your current bank offers. If you have good credit, you should get a lower rate than the national average.

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