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Key takeout
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The 3/1 arm is a type of adjustable mortgage that starts at a fixed rate and changes from interest rates that fluctuate three years later.
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There are usually limits on how much the rate can increase during each rate adjustment and the life of the loan.
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The 3/1 arm usually has a lower rate compared to fixed-rate mortgages that start.
What is a 3/1 Arm?
A 3/1 Adjustable Mortgage (ARM) is a type of mortgage with a fixed interest rate for the intro period, and has a variable interest rate once the intro period has ended.
These loans typically have a 30-year term of office. Interest rates are fixed for three years and then adjusted annually over the next 27 years.
How does a 3-year adjustable mortgage work?
For the first 3 years, the 3/1 arm works like that Fixed-rate mortgage: Set monthly payments.
Once those three years have passed, the rates will be adjusted annually. Lenders can adjust up and down based on the margins set by the lender in addition to the performance of the index tied to the mortgage.
Some of the indexes that lenders use to price their arms include a one-year Treasury bill, the 11th District Funding Cost Index (COFI), and a protected overnight funding rate (SOFR). For example, if the Treasury bill yields rise, the lender will increase your arm percentage. This results in an increase in monthly payments.
Luckily, the arms generally come with an adjustment cap. These limit how much your lender can change your interest rate. Usually, at both each adjustment interval and the lifespan of the loan.
Arm Terminology you should know
- Introduction period
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This is the period before interest rates begin to adjust. On the 3/1st arm, the introduction period is three years.
- Introduction/teaser rate
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This is a fixed interest rate you pay during the three-year introductory period. The main advantage of this loan type is that the arm rate of 3/1 is usually lower than the comparable fixed mortgage rate.
- Adjustment interval
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This is how often the lender changes the rate. With the arm of 3/1, it’s every year. With a 3/6 arm, it’s every six months.
- Initial adjustment cap
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This limits the amount of rates that lenders can change during the initial adjustment. Some weapons allow for greater rate changes with the initial adjustment than in subsequent years.
- Periodic Rate Cap
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This limits the amount that lenders can change the rate for each consecutive adjustment interval.
- Lifetime Cap
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This lays out ceilings that limit how much your lender can adjust your fees over the life of your loan. Essentially, it shows you the maximum rate you may need to pay if you hold a 3/1 arm for the full loan term.
3/1 Time to consider an arm loan
It makes sense to consider a 3/1 arm in various situations.
- You want to enter the house at a lower interest rate now, but have plans to move in the near future.
- I plan to refinance with a new loan before the low-cost intro period ends.
- You can expect certain scenarios that will need to be moved soon, such as planning to move you in a few years.
When considering the 3/1 arm, you can remember the following points:
3/1 advantages of the arm
- First low interest rate: The main advantage of this loan type is that the 3/1 arm rate is lower than the standard 30-year fixed mortgage for at least the first three years.
- First, reduce your mortgage payments: Lower fees mean lower monthly mortgage payments. This may help you buy more homes.
- The chances of rates decrease: The rate may be adjusted downwards. However, I recommend this to be rare.
Cons of 3/1 Arm
- There is a greater chance of an increase in the rate: Historically, there has been an increase in indexes tied to adjustable mortgages. If you choose this type of mortgage, you will need to prepare for interest rates and, as a result, monthly payments, in order to rise after the intro period.
- Possibility of economic difficulties: If your rate rises, it can make it more difficult to afford your mortgage payments.
How 3/1 arm is compared to other loan types
The three-year adjustable mortgage is very similar to the rest of your arms. The main difference between these loans is the length of the introduction period, where the interest rate remains fixed.
Other common arms include:
- 5/1 Arm Or 5/6 arm: Fees remain fixed for five years, then adjust annually or every six months for the remainder of the loan.
- 7/1 Arm Or 7/6 arm: Fees remain fixed for seven years, then adjust annually or every six months for the remainder of the loan.
- 10/1 Arm Or 10/6 Arm: Fees remain fixed for 10 years, then adjust annually or every six months for the remainder of the loan.
Generally, the longer the introduction period, the higher the interest rate will be during that window. For example, a 3/1 arm may have a lower adoption rate than a 7/1 arm.
3/1 Adjustable Mortgage and Fixed Rate Mortgage
In contrast to the 3/1 arm, Fixed-rate mortgage Maintain the same interest rate for the life of the loan. For example, if you choose a 30-year fixed-rate mortgage, your 30-year interest rate will remain the same.
Most borrowers get fixed-rate mortgages as monthly payments often drop over time compared to their arms, and fixed interest rates make budgets much easier. With a 3-year adjustable mortgage, you can get overhead if the fee is too high.