ARM Loan

What is an ARM loan?

An adjustable-rate mortgage (ARM) is a loan with an interest rate that changes based on market conditions after an initial fixed-rate period. ARMs are divided into two parts: the introductory fixed-rate period is followed by the adjustable-rate period, during which the interest rate adjusts at predetermined intervals.

The schedule of an ARM loan is generally given in a two-number format, often featured in the program name, like 7/6. The first number indicates the initial fixed rate period and the second number represents the frequency of adjustments after that point. For example, in a 7/6 ARM, the initial interest rate would remain fixed for seven years. Beginning in year eight, the lender would then adjust the rate every six months, depending on index fluctuations.  

How are ARM rates determined?

ARM rates are calculated by adding together two key components: an index and a margin.  

The index is a variable rate based on market conditions. The margin is a fixed percentage set by the lender. Your lender will disclose the index and margin at time of loan application.

When the initial fixed-rate period ends, the ARM rate adjusts at scheduled intervals typically every 6 or 12 months. At these designated times, an ARM’s interest rate will adjust to be the sum of the current index value and the predetermined margin.

To help protect borrowers from drastic payment changes, most ARM's include rate caps to limit both how much the interest rate can change at each adjustment and how much it can change over the life of the loan.

What are the advantages and disadvantages?

Advantages: 

• Lower rates and monthly payments during the introductory fixed period
• If rates fall, so will your payment without the need to refinance
• If you don’t plan on living in one place for very long, you may sell your home prior to the first-rate adjustment
• Rate caps protect you by limiting how much your interest rate can increase

Disadvantages:

• Rates and payments fluctuate over the life of the loan making budgeting your monthly mortgage payment, in the long-term harder

Is an ARM loan right for me?

Deciding whether an ARM loan is right for you depends on your financial goals, how long you plan to stay in the home and your comfort level with potential rate changes. ARMs may be a smart option if you’re looking to lower your initial monthly payments or if you expect to move or refinance before the adjustable period begins. If you’d like to learn more to see if an ARM loan may be right for you, speak to one of our Loan Officers.