ARM Mortgage
An adjustable-rate mortgage (ARM) is a loan that bases its interest rate on an index, the fed funds rate, or the one-year treasury bill. An ARM is also known as an adjustable-rate loan, variable-rate mortgage, or variable-rate loan. After a term of anywhere from 3-10 years of an initial fixed rate, the interest rates of an adjustable-rate mortgage will vary. This means monthly payments will fluctuate and will not be predictable. With an adjustable-rate loan, the borrower often benefits from a low rate in the beginning, taking the risk of higher rates and monthly payments in the future. If a borrower expects their income to rise in the future or favorable market conditions are expected, then an adjustable-rate mortgage could be a beneficial option.
Overview
An ARM carries an interest rate that is constant at first but changes over time and depending on the terms, you’ll typically pay a low fixed interest rate at the beginning. When the time period is over, your interest rate will change at certain time intervals, depending on market conditions.
The advantage of an Adjustable Rate Mortgage is TIMING. The appeal is the lower interest rate for a lower house payment during the initial term of the loan.
Reasons to apply for an ARM
- Planning to sell in the next year
- Lower interest rate in the initial phase of a mortgage
- You are planning to move within a few years
- You are thinking of refinancing within the next few years
Adjustable Rate Mortgage FAQs
What are the risks of an ARM Mortgage?
You could struggle with a higher payment when the rate adjusts after the initial fixed-rate period. Your financial situation could change when rate changes, making it difficult to afford potentially higher monthly payments. You might also have a prepayment penalty if you sell or refinance.
How are ARMs calculated?
Once the initial fixed-rate ends, the interest rates will begin changing based on the reference interest rate. This could be the prime rate, the Secured Overnight Financing Rate, the short-term U.S. Treasury rate, or the London Interbank Offered Rate. The lender will also add a fixed interest amount called the ARM margin.
What are the requirements for an ARM mortgage?
Yes, you can refinance an ARM! Usually borrowers refinance an ARM so that they can obtain a more appealing fixed-rate loan.
Can you refinance an ARM loan?
Yes, you can refinance an ARM! Usually borrowers refinance an ARM so that they can obtain a more appealing fixed-rate loan.
Why is an ARM better than fixed?
With a fixed-rate loan, lenders anticipate rate changes so the overall interest rate is higher. Lenders can give lower initial interest rates for Adjustable Rate Mortgages, since the rates will most likely be higher later on.
Can I pay off an ARM early?
A borrower must check the conditions of their loan to ensure they won’t have to pay prepayment penalties if they pay off the loan early. A 5 year-adjustable rate mortgage can be paid off early.