This week’s theme on the Retirement Quick Tips Podcast is: Top 5 Money Traps To Avoid

Today, I’m talking about the money trap of adjustable rate mortgages. With higher interest rates over the past year, these mortgage products which brings back haunting memories from the Great Recession, are surging in popularity.

From early 2020 through early 2022, adjustable-rate loans made up less than 5% of all mortgage applications, according to the Mortgage Bankers Association, a nonprofit organization representing the U.S. mortgage finance industry.

But by mid-2022, they made up more than 10% of mortgage applications. By October 2022, nearly 12% of mortgage applications were for adjustable-rate loans.

During the housing boom from 2004-2007, adjustable-rate mortgages made up over a third of mortgage applications each year, before plummeting to less than 5% across parts of 2008 and 2009, and remaining under 10% until recently.

What makes adjustable mortgages more popular, especially right now, is that the rate you’ll start out paying on your mortgage is lower than a fixed rate mortgage. Right now, the interest rate on a ARM that adjusts in 5 years is 5.81%, compared to the 30 year fixed at 6.94%. 

So it’s easy to see why a lot of borrowers are getting sucked into this money trap when rates are so much lower on the ARM. Depending on the size of the loan, you’re looking at thousands of dollars less every year that you’ll pay on the loan, and with many buyers still struggling to afford a house, a ARM looks especially attractive.

The problem is, that if you buy a house today using an adjustable rate, you’re betting that you’ll move in the next 5 years, or that rates have declined AND you have enough equity in your house AND you can afford all the refi fees. That’s a pretty big uncertainty and a pretty big bet that everything will be in your favor when you fast forward 5 years. 

If rates are still high in 5 years or housing prices have decreased and you don’t have the equity to refinance, and you’re hit with a higher payment when your mortgage rate adjusts that you can’t afford, that's how you get yourself into a serious mess like we saw with the mortgage mess, foreclosures, and housing crisis back in 2008. 

That’s it for today. Thanks for listening! My name is Ashley Micciche and this is the Retirement Quick Tips podcast.    

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Tags: retirement, investing, money, finance, financial planning, retirement planning, saving money, personal finance