The interest rate is linked to the fluctuation of a reference financial index, generally the Euribor. Based on the trend of the financial market, the outcome of the calculation of the mortgage installment can vary: upwards when the Euribor rises, downwards when the index falls. This means that the amount of the installment, in mortgages with variable rates, will depend on the market trend referring to the period envisaged for the payment of the new installment.
Variable Rate Mortgage
Adjustable rate mortgage, how does it work? Advantages and disadvantages
An adjustable rate mortgage differs from a fixed rate mortgage in that rates during part or all of the loan period are structured as variable and not fixed.
What are the advantages of variable rate mortgages?
Variable rate mortgages offer advantages if:
- You need to move before the end of the fixed-rate introductory period so you don't worry about possible rate increases You want a lower initial monthly payment than a fixed-rate mortgage usually offers You think interest rates might go down in the future You can more easily benefit from an adjustable rate mortgage because the initial monthly payment is lower. You can buy a more expensive home because the initial monthly payment is lower. Adjustable rate mortgages give you more flexibility than fixed rate mortgages. Homebuyers who will be staying in their home for a short time and anticipate a stable or falling interest rate environment can take advantage of the low introductory rates since they will be selling in a few years.
What are the disadvantages of variable rate mortgages?
Homeowners with an adjustable rate mortgage share the risk of rising interest rates with the lender; therefore, these mortgages have more inherent risk. For this reason adjustable rate mortgages are not suitable for most home buyers.
The disadvantages of an adjustable rate mortgage versus a fixed rate mortgage include:
- Payments fluctuate after the initial period. Homeowners must adjust the monthly household budget as mortgage payments go up and down. Monthly mortgage payments go up if interest rates go up. Borrowers must have the means to pay a higher mortgage payment if interest rates go up. Adjustable-rate mortgages are more complex than fixed-rate mortgages, so loan terms and vocabulary can be confusing.
Who might choose an adjustable rate mortgage?
Adjustable rate mortgages are generally recommended for people who expect interest rates to fall, plan to live in a particular home for a few years, or plan to pay off their mortgages before the interest rate adjustment period. These homebuyers also need to have the disposable income to pay off a higher mortgage in the event they stay in the house longer and interest rates rise.
While an adjustable rate mortgage can be a powerful financial tool resulting in significant financial savings, it's not the best choice for most home buyers. Most people buying a home will choose a fixed rate mortgage because of the stability it provides over the long term.
