Loan Program
Adjustable-Rate Mortgages: Understanding How ARMs Work
Adjustable-rate mortgages, commonly called ARMs, are loans where the interest rate is not fixed for the entire term. Instead, the rate is fixed for an initial period — often several years — and then adjusts at set intervals based on a market index. During the initial fixed period, the payment is predictable. After that period, the rate and payment can change.
Quick Answer
An adjustable-rate mortgage, or ARM, is a home loan where the interest rate can change over time. The rate is typically fixed for an initial period and then adjusts periodically based on a market index. This means the monthly principal and interest payment can go up or down after the initial period ends.
How an ARM Works Over Time
Understanding ARMs
What is an adjustable-rate mortgage?
An adjustable-rate mortgage is a loan where the interest rate is fixed for an initial period and then adjusts periodically. The initial fixed period is described by the loan’s name — for example, a 5/1 ARM has a fixed rate for the first five years, and then the rate adjusts once per year after that. Other common structures include 7/1 and 10/1 ARMs.
After the initial fixed period, the rate adjusts based on a market index plus a margin set by the lender. The index reflects current market conditions, and the margin is a fixed amount added to the index. The new rate is calculated at each adjustment according to the terms of the loan. Rate caps limit how much the rate can change at each adjustment and over the life of the loan, which provides some protection against large increases.
ARMs can be used across several loan programs, including conventional and jumbo financing. The initial rate on an ARM is typically lower than the rate on a comparable fixed-rate loan, which can result in a lower initial payment. Borrowers who understand the adjustment mechanics and are comfortable with the possibility of payment changes after the initial period may find an ARM worth considering.
Questions to Consider
Questions to ask before choosing an ARM
How long is the initial fixed period?
Common structures include 5/1, 7/1, and 10/1 ARMs.
What are the rate caps?
Rate caps limit how much the rate can change at each adjustment and over the life of the loan.
How long do I plan to stay in the home?
If you plan to sell or refinance before the rate adjusts, an ARM may be worth exploring.
Am I comfortable with payment changes?
After the initial period, your payment can go up or down.
Fixed vs Adjustable — Full Comparison
Fixed-Rate
- Initial rate is typically lower than the rate on a comparable fixed-rate mortgage
- Rate caps provide limits on how much the rate can change at each adjustment and over the life of the loan
- Can be a useful option for borrowers who plan to move or refinance before the rate adjusts
- Available across several loan programs including conventional and jumbo financing
Adjustable-Rate
- After the initial fixed period, the rate can increase, which would raise the monthly payment
- Understanding rate caps, the index, and the margin is essential before choosing an ARM
- If you do not sell or refinance before the rate adjusts, your payment may change
- The total cost over the life of the loan is less predictable than with a fixed-rate mortgage
Tools
Calculators to Help You Plan
Frequently Asked Questions
What is an adjustable-rate mortgage?
An adjustable-rate mortgage, or ARM, is a home loan where the interest rate is fixed for an initial period and then adjusts periodically based on a market index. The monthly principal and interest payment can change after the initial period ends.
How does the rate change on an ARM?
After the initial fixed period, the rate adjusts based on a market index plus a margin set by the lender. The index reflects current market conditions, and the margin is a fixed amount. The new rate is calculated at each adjustment according to the loan’s terms.
What are rate caps?
Rate caps are limits on how much the interest rate can change at each adjustment and over the life of the loan. They provide protection against large rate increases. Your loan officer can explain the specific caps that apply to a given ARM.
When does an ARM make sense?
An ARM may make sense for borrowers who plan to sell or refinance before the initial fixed period ends, or who are comfortable with the possibility of payment changes. It can also be worth exploring for the lower initial rate compared to a fixed-rate loan.
Can I refinance an ARM?
Yes, you can refinance an adjustable-rate mortgage. If you want to switch to a fixed-rate loan before the rate adjusts, or if rates have changed, refinancing may be an option. Your loan officer can help you evaluate whether refinancing makes sense.
Related Programs
Explore Other Options
Fixed-Rate Mortgages
Homebuyers who want a consistent monthly principal and interest payment
Learn moreConventional Loans
Homebuyers seeking a standard mortgage not backed by a government agency
Learn moreJumbo Loans
Homebuyers financing higher-priced properties that exceed conforming loan limits
Learn more