Two-Step Mortgage

Is a two-step mortgage is a type old-timey home loan dance? Well… it depends on how you define “dance.” Unfortunately, this mortgage doesn’t involve a lot of joyous dancing, though after it’s paid off, there may be dancing-related celebrations. A two-step mortgage is a home loan that combines features of both a fixed-rate mortgage and an adjustable-rate mortgage (ARM). The loan begins with a fixed interest rate for a predetermined period, often five, seven, or ten years. At the end of that initial period, the interest rate adjusts one time to a new rate based on a specified index and margin. After this single adjustment, the new interest rate remains fixed for the rest of the loan term. Unlike a traditional ARM, which may adjust periodically throughout the life of the loan, a two-step mortgage has only one scheduled rate change.

Borrowers may choose a two-step mortgage when they want the stability of a fixed payment for several years while potentially qualifying for a lower initial interest rate than a fully fixed-rate mortgage. However, the one-time adjustment can result in a higher monthly payment if market interest rates have increased by the adjustment date. Before choosing this type of loan, borrowers should review how the new rate is calculated, whether there are limits on the size of the adjustment, and how the change could affect their long-term housing costs.