If your adjustable home loan is going to reset, you might be in for some payment sticker shock. You might not have your first reset until you've had your loan for a few years already, but after that, the lender could reset it once a year or more. The results might not be as bad if you've got a balloon loan with a reset option, since you're the one asking for the reset.
Adjustable Interest Rate
If you took out a home loan with an adjustable interest rate, the "reset" is when the lender changes your rate. When this will first happen and how often depends on what you signed up for. ARM loans have different terms. For example, a first reset might be at the one-year, two-year or five-year mark. Your lender uses an index, which is affected by economic conditions and other happenings in the financial market, to calculate your new rate for each reset. If you look at your loan papers, you'll see that your ARM loan rate has a floor and a cap. The floor is the lowest the interest rate can go. The cap limits how much the lender can raise your rate during a reset, such as by 2 percent.
A home loan with a large end payment -- usually close to what you borrowed to begin with -- is known as a "balloon" mortgage. If you took out a balloon mortgage with a reset option, you can reset the loan so you don't have to cough up a huge payment when it's due. The reset extends the time you have to pay off the loan, but your interest rate will be changed to whatever the going rate is at the time. You'll have to meet some lender-set criteria to use your reset. For example, if you were late paying once over the last year, you might have lost your chance at using the reset.
A reset of an adjustable-rate mortgage or a balloon mortgage can mess up your finances. Your payments might skyrocket because of the new interest rate. If you have a good credit score and think you'll meet the bank's criteria, try to get a new loan to pay off the current one before it resets on you. Even though you're just refinancing, you're still getting a new loan, so you'll have to go through the whole application, approval and loan closing steps. Apply for the new loan months before your reset date so you have enough time to close before the current loan changes. Look at fixed-rate mortgages for your new loan, as these don't reset.
Whether you have a balloon loan you're resetting or an ARM that's resetting on its own, you can estimate how much it'll cost you ahead of time. Both loans should show how the lender will calculate your interest rate in your original loan papers. You'll also find the maximum interest rate the lender is allowed to charge you in the same paperwork. Use the maximum rate to see what your worst-case reset scenario is.
Anna Assad began writing professionally in 1999 and has published several legal articles for various websites. She has an extensive real estate and criminal legal background. She also tutored in English for nearly eight years, attended Buffalo State College for paralegal studies and accounting, and minored in English literature, receiving a Bachelor of Arts.