Here are three things to consider when you’re choosing between a fixed-rate mortgage and an adjustable-rate mortgage (ARM) on an investment property:
1 – Cash-Flow & Rate of Return Considerations
An ARM typically carries a lower interest rate vs. a fixed rate mortgage. This means that you’ll generally pay less interest and have a lower monthly payment vs. a 30-year fixed rate mortgage. While not super significant in most cases, the savings could add up over time and enhance your overall rate of return throughout your holding period.
2 – Time Considerations
How long do you plan to keep the property and the mortgage? Most ARMs carry fixed interest rates for specified periods of time. For example, the interest rate and monthly payments on a typical 5-yr ARM are fixed for five years, while the interest rate and monthly payments on a typical 7-yr ARM are fixed for seven years. If you’re only planning to keep the house and mortgage for five or seven years, a 5-yr or 7-yr ARM could make sense.
3 – Risk Considerations
While it’s generally a good idea to have a timeline in mind BEFORE you invest in real estate, nobody can predict the future with absolute certainty. The main risk with an ARM is that your mortgage rate and monthly payment could go up after the initial fixed period. You could reduce the potential impact of that risk by choosing an initial fixed period that is a little longer than your timeline. Also, make sure to understand the index used on your ARM so that you know what could cause your interest rate to go up or down in the future. On the other hand, the main risk with a fixed rate loan is that you’re losing money NOW in exchange for the chance of maybe saving money at some point down the road if you keep the loan for more than five or seven years.
As you can see, there’s no “one-size-fits-all” strategy when it comes to investing in real estate. Contact me for more info or to explore your options!