Use a Refinance Calculator: Assess Adjustable Rate Mortgage Risks

By Richard Barrington
Calculators for Mortgages Columnist

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Don't Wait for Trouble before Refinancing

Not everyone with an adjustable rate mortgage has run into trouble over the past couple years. So, if your mortgage hasn't been a problem up to this point, why should you consider refinancing? The reason is that the worst time to refinance is after trouble has cropped up. If you had good credit, chose a mortgage where the interest rate could fluctuate but without "balloon" features, and budgeted responsibly for making payments after the "teaser rate" gave out, you may be wondering what all the fuss is about adjustable rate mortgages. After all, mortgage interest rates have trended mildly lower over the past year. Even so, there are reasons you should consider refinancing to a fixed rate mortgage.

Potential Trouble with Adjustable Rate Mortgages

There are two important reasons why you should consider refinancing to a fixed rate mortgage when your mortgage situation seems good:

• Adjustable rate mortgages will always be vulnerable to changes in interest rates. The kicker is that if interest rates rise, refinancing to a fixed rate mortgage will no longer be helpful, since those rates will be higher as well. At around 6%, thirty-year mortgage rates are relatively low, and a move to a fixed rate mortgage could lock in your rate at that level.
• As a general rule, it is always best to refinance before trouble hits because that is when your credit as at its strongest. If rising interest rates or other financial setbacks damage your credit rating, you will find yourself facing refinancing on much less favorable terms.

Stress-Test Your Adjustable Rate Mortgage

A mortgage refinance calculator is an excellent tool for helping you evaluate your refinance options.

First: Stress-test your adjustable rate mortgage. This means using the refinance calculator to run a few different scenarios for what could happen to your monthly payments. For example, suppose interest rates rose 1%, 2%, 3%, or even 4%? As unlikely as it may seem, even larger jumps in interest rates have been known to occur -- especially over the course of a thirty-year mortgage. Your mortgage may have caps on how much the rate can change, but these typically only limit the changes within one year. You could still face years of steadily rising interest rates.

Second: you can use the refinance calculator to see what payments would be on a fixed rate mortgage at today's rates. If those are payments your budget can live with, you may decide it is better to lock in payments at that level rather than risk having payments get out of control if interest rates rise at any time in the future.

Evaluate Your Adjustable Rate

Adjustable rate mortgages are an appropriate fit for some situations, but they do come with an "X" factor in the form of potentially rising interest rates. If you decide you aren't comfortable with such an "X" factor in your finances, use a refinance calculator to look at your alternatives.

About the Author
Richard Barrington is a freelance writer and novelist who previously spent over twenty years as an investment industry executive.