Definition of an adjustable mortgage rate & types


An adjustable rate mortgage or ARM is the second main type of mortgage loan out there.An adjustable rate mortgage allows your interest rate, and consequently your payments, to fluctuate throughout the duration of the mortgage. Whether ARM’s go up or down depends on a variety of economic factors. The adjustable rate is generally related to the money market index, or the one year Treasury Bill. The money lender will generally add 2 to 4 percent to the current rate of the Treasury Bill in order to create a current adjustable rate for you. The extra percentages that lenders add to your rate are called margin. An ARM mortgage usually starts with a lower mortgage rate than a fixed rate mortgage starting at the same time. The difference between a fixed rate loan and an adjustable rate loan can be up to 3 percentage points. There are many different types of loans that you can get as adjustable, depending on the economy and the loaner. An ARM usually changes its rates within the first year but it can vary from 1 month to 10 years; there is no exact time. If rages go up, your payments will go up, and if they drop, you’ll pay less. ARMs generally have caps that specify the maximum rate the loan can change to at one time, and the maximum it can vary from the original mortgage rate over the duration of the loan. These specifications are not stated in percentage rates but in dollars.

Some adjustable mortgage loans include a conversion option, which allows you to convert the ARM to a fixed rate mortgage in the future for a pre determined fee. This is a helpful feature if the interest rates start getting higher. A good feature of an ARM is that it allows you to afford a larger mortgage – this is valuable if you’re sure that your income will be increasing during the life of the loan, or you know that you’ll be selling the home within 5 years. In addition, if a rate starts falling you don’t need to refinance to see your monthly payments go down – they will automatically be reduced at the lower mortgage rates. On the down side, your payments and interest rate can increase during the loan even with the cap. The starting rates are generally lower than market rates, so when your first adjustment is received there can be a significant change because caps don’t always apply to your very first adjustment.

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