If you are looking to make 30 yr. fixed payment, I would suggest looking at 10/1 or 7/1 as you will build equity quicker. Based off of your child still having time before entering school, I would lock in the longer of the two terms. 10/1 would be my recommendation. 10 years in a long time. 5/1 and 7/1 mortgage were created because historically, borrowers will buy/sell/refinance every 5-7 years. So, you will be locking in a very competitive rate, that will get you to 2023.
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Think about what your long term goals are and decide accordingly.
This is really insightful suggestion. When I run amortization for 10 ARM @ 3.5% but paying payment same as 30 year fixed i.e. 2,888 then after 7 years I would be having $487,366 principal left and in 10 years $432,031 principal left.
With 7 ARM @ 3.125% paying payment same as 30 year fixed i.e. 2,888, after 7 years principal balance is 470,697
However in 30 year fixed @ 4.125% after 7 years principal balance is 514,381 and after 10 years principal balance would be 471,526
I'm in dilemma which option to take. I plan to pay same payment as 30 year fixed if I take ARM so can reduce principal much faster. If take ARM will try for best option to refinance from 5th year onwards. But, I'm keep hearing that 4.125% is all time lowest rate if we exclude 2012 rates and may not happen again. I see rates going up and as you say elections may have rates increased.
I'm buying home at almost market peak so not sure if home price will drop or same in next 7 - 10 years to refinance. Though I'm planning to reduce principal as much possible till my ARM rates are fixed, by any chance if interest rates go up till 8% cap of ARM, will I get in trouble with mortgage payments. I understand risk and gain go together but considering your expert foresight will this 30 year fixed rate of 4.125% is run away rate that make it right choice to go with it and ignore perks of ARM. Or, ARM approach with reducing principal faster sounds good plan then which one of 7/1 ARM @ 3.125 or 10/1 ARM @ 3.5% seems wiser. With ARM my goal would be to refinance at any opportunity I see to refinance with in fixed rate period.
Most people are very familiar that lower interest rates give a lower mortgage payment. Most don't realize that the lower interest rates pay off the principal quicker in the early years even with the lower payment.
A $500k loan at 3% has a monthly payment of $2,108 and pays off $55,468 of the principle in 5 years.
A $500k loan at 6% has a monthly payment of $2,998 and pays off $20,599 of the principle in 5 years.
See http://julianalee.com/reinfo/mortgage.htm for a table showing equity for different interest rates.
If interest rates don't increase above the 4.125% fixed rate, the ARM can save you quite a bit of money. However if interest rates do rise above 4.125%, you need to be able to pay the higher monthly mortgage. Your thoughts to get the ARM but make a monthly payment equal to the higher fixed rate loan is most often a very good plan. You will actually pay down the loan so much quicker that a future increase in interest rates may not be very costly. The biggest concern is will the upcoming elections result in a quick increase in interest rates?
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Thanks for response. Which option do you suggest is best considering rates going up? Will it make sense to go for ARM and pay payment like 30 year and reduce principal fast and refinance before fixed rate adjust or take 30 year? I'm looking to stay in home for 12-15 years.