Adjustable Rate Mortgages
An adjustable rate mortgage (ARM) is a home loan where the interest rate is adjusted (usually annually). The adjustments are usually tied to indices such as the 12 month Treasury Average Index (MTA). For example, the adjustment might be the MTA index as of December 31st, plus 2 points. Then, the mortgage payment is recalculated for the next period.
ARM Caps
ARM’s have three caps:
- Interest Rate Adjustments- This can happen every six months, typically as a 1% adjustment or 2% total for the year or a yearly adjustment that typically caps at 2% for the year.
- Mortgage Payment Adjustment- Maximum mortgage payment amount limits
- Life of Loan Interest Rate Adjustments- Total interest rate is usually limited to 5% or 6% for the life of the loan.
Reason for an ARM
With an ARM the initial payments are lower (usually a fixed rate). This may allow you to qualify for a loan. However, this rate usually only last a few months or a year.
Other ARM Factors
Conversion- The lender may have a clause that allows you to convert the ARM to a fixed rate mortgage at certain times during the agreement.
Prepayment- There may be prepayment penalty fees if the ARM is paid off early.
Negative Amortization- This means the mortgage balance is increasing. It happens when the mortgage payments can’t cover the interest. This could happen in an ARM because the payment fluctuates.
Steve Wyrostek -HomeLoans.org Expert A 20 year plus veteran of the insurance industry, Steve managed departments in the personal and commercial lines areas of major insurers. He’s familiar with how insurance—ranging from boat to workers compensation—works.
