ARM (Adjustable Rate Mortgage)
An ARM (adjustable-rate mortgage) is a type of mortgage loan where the interest rate can change or adjust periodically over the life of the loan based on changes in a specified financial index, such as the prime rate.
ARM loans typically have lower initial interest rates compared to fixed-rate mortgages, which can be attractive to borrowers looking for lower monthly payments. However, the interest rate on an ARM loan can adjust up or down based on market conditions and can result in significant changes to the borrower’s monthly payment.
For example, a 5/1 ARM loan has an initial fixed rate for the first five years, after which the interest rate can adjust annually. The new interest rate is based on the index plus a margin determined by the lender. The borrower’s monthly payment will adjust accordingly.
ARM loans may be a good option for borrowers who plan to sell or refinance their home within a few years or who expect to see an increase in their income in the future. However, they can be risky for borrowers who plan to stay in their home for a longer period or who are on a fixed income, as the fluctuating interest rates can make it difficult to budget for future payments.
ARM loans are available in different varieties, including 3/1, 5/1, 7/1, and 10/1 ARMs, which offer fixed rates for the first three, five, seven, or ten years, respectively, before the interest rate can adjust. Borrowers should carefully consider the risks and benefits of an ARM loan and consult with a mortgage professional to determine whether it is the right option for their financial situation.