Adjustable-rate mortgages (ARMs) have quickly become an attractive option for borrowers facing rising interest rates and home prices. While fixed-rate mortgages are still the most popular type of home loan, they come with higher initial rates than ARMs, making them more expensive—at least in the short term.

The lower up-front rates with ARMs give today’s buyers more spending power and the opportunity to save money on interest as fixed mortgage rates continue to rise above 5 percent. The current average rate for a 5/1 ARM is 4.24% compared to the current average of 5.50% for 30-year fixed loans.

Related: Current ARM rates

The popularity of ARM is increasing.

In early July, ARM applications jumped 30% year-over-year, according to the Mortgage Bankers Association. When you consider that buying a home in June 2022 was 80% more expensive than the same time last year, according to a National Association of Realtors report, it’s easy to understand why many borrowers are looking to cut costs with lower ARM rates.

Although ARMs come with some risks, ARMS can be a valuable choice for buyers looking for the extra savings that today’s market has to offer.

“Adjustable-rate mortgages are a great option to get us through these tough pricing times,” said Melissa Cohn, regional vice president of William Ravis Mortgage. “Problems affecting the economy will be resolved at some point. But until that happens, an ARM may be the way to go for buyers looking to close a deal and buy a home they can afford.

How does ARM work?

Unlike a fixed-rate mortgage, which comes with a rate that stays the same throughout the life of the loan, an ARM has a rate that can change in the future. However, this potential change does not begin immediately.

Instead, the ARM rate is fixed for a fixed period at the beginning of the loan – usually three to 10 years. After that, the price is typically adjusted annually based on market conditions. However, some borrowers may accept higher risk in return for initial savings.

“Many of my clients are upset about missing out on very low interest rates but still want to buy a home,” says Jamie Camp, a California resident at the agency. “As we’re turning the corner and the market is shifting to a buyer’s market, I encourage buyers to consider one as an option as interest rates continue to rise, helping to lower monthly mortgage payments.”

Keep in mind that an ARM usually comes with a few interest rates that limit how much your rate can change, making payments more manageable for borrowers. Additionally, as long as you meet the mortgage lender’s criteria, you can choose to refinance the ARM into a fixed-rate loan in the future. So if rates start to decline, you may have the opportunity to refinance into a fixed-rate mortgage at a lower rate.

Current expected rates from ARM versus last week’s rates as well as the 52-week high and 52-week low.

Advantages and disadvantages of ARMs

It’s important to weigh the pros and cons of an ARM to make sure you can afford the mortgage when the payments begin to adjust.

Advantages of ARMs

• Low rates. The obvious benefit of an ARM is the much lower interest rate compared to fixed-rate loans, at least for the first few years of the loan.
• It may lower your fees. In the initial fixed-rate phase of the loan, your payment may be lower than what you would pay on a fixed-rate loan. Depending on market conditions, this may continue into the fixed-rate portion of your repayment period.
• More flexibility. If you don’t plan to stay in your home for a long time, an ARM may allow you to take advantage of lower payments on the first installment of the loan before you sell your home. This can be especially important if you expect your financial situation to change in the near future.

Disadvantages of ARMs

• Fees may increase. Once your loan enters the adjustable-rate phase, your payments may rise or fall depending on the market. While lenders generally have rate adjustments, you may find yourself paying much higher than you started with.
• Negative lack. Although interest rates can help you gain more control over your monthly payments, they can also lead to negative losses. This is when your payments don’t cover the full amount of interest you owe, and the unpaid interest is added to your loan balance, meaning you may end up paying interest.
• Planning for the future can be difficult. Without a fixed amount on your loan, your payments can fluctuate frequently, making it difficult to make other financial decisions.