Content
Your mortgage loan officer can share their thoughts with you on this, but it’s also a good idea to do your own research and understand what kind of trends you should be watching. Remember that no one has a crystal ball, and rates could always spike right before your ARM is set to adjust. You also might consider it if you expect your income to grow down the line. If you plan to sell your home or refinance before the ARM’s introductory period is over, you shouldn’t have to worry about the rate adjusting.
This is different from a fixed-rate mortgage, which locks in your rate for the entire life of your loan. For example, if you have a 30-year fixed-rate mortgage, you’d pay the same rate for all 30 years. The “limited” payment allowed you to pay less than the interest due each month — which meant the unpaid interest was added to the loan balance. When housing values took a nosedive, many homeowners ended up with underwater mortgages — loan balances higher than the value of their homes. The foreclosure wave that followed prompted the federal government to heavily restrict this type of ARM, and it’s rare to find one today. A payment-option ARM, however, could result in negative amortization, meaning the balance of your loan increases because you aren’t paying enough to cover interest.
Borrowers faced sticker shock when their ARMs adjusted, and their payments skyrocketed. Since then, government regulations and legislation have increased the oversight of ARMs. The partial amortization schedule below shows how you pay the same monthly payment with a fixed-rate mortgage, but the amount that goes toward your principal and interest payment can change. In this example, the mortgage term is 30 years, the principal is $100,000, and the interest rate is 6%.
It’s possible for your ARM rate to go down if interest rates fall and then your rate adjusts. ARM rates are much more likely to increase when they adjust than to decrease. An adjustable-rate mortgage is a great tool for many home buyers, but it also comes with serious risks that borrowers need to be prepared for. It can be, especially if they plan to sell or refinance before the initial fixed-rate period ends. Rate caps limit how much the interest rate can increase at each adjustment period and over the life of the loan.
Rate adjustment periods define how often the interest rate on an ARM can change after the initial fixed period. Common adjustment periods include annually (1-year ARM) or every six months. The terms of the rate adjustment are outlined in the mortgage contract. Most mainstream ARM loan payments include both principal and interest. The only time you won’t pay principal on an ARM is if you opt for a special product like an interest-only or payment-option ARM. These can offer a lower payment that covers just the interest, or possibly not even all the interest due, for a period of time.
There are various features that come with these loans that you should be aware of before you sign your mortgage contracts, such as caps, indexes, and margins. It’s also possible to secure an interest-only (I-O) ARM, which essentially would mean only paying interest on the mortgage for a specific time frame, typically three to 10 years. Once this period expires, you are then required to pay both interest and the principal on the loan. Mortgages allow homeowners to finance the purchase of a home or other piece of property.
The initial interest rate on an adjustable-rate mortgage is sometimes called a “teaser” rate, and ARMs themselves are sometimes referred to as “teaser” loans. There are different types of ARMs to choose from, and they have pros and cons. ARMs offer flexibility, allowing homeowners to benefit from lower initial rates and potentially lower payments if market rates decrease. However, this comes with the risk of rising payments if rates increase. Our goal is to give you the best advice to help you make smart personal finance decisions. We follow strict guidelines to ensure that our editorial content is not influenced by advertisers.
Homeowners can plan their budgets without worrying about interest rate changes. This predictability is especially valuable in times of economic uncertainty. At Bankrate we strive to help you make smarter financial decisions. While we adhere to stricteditorial integrity, this post may contain references to products from our partners.
This can make it hard to budget and plan for and could strain your finances. If you check the respective index and see trends are going up or down, you’ll have a good idea whether your rate will increase or decrease at the next adjustment point. Your lender will also have rate caps in place that will determine how much your rate can increase each period and how high your rate can go over the life of your loan. With these options, you’ll pay the same rate for the first five or seven years of the loan. The first number, five, is how long the fixed interest term will last on your loan. This means you’ll pay the same interest rate for the first five years of your loan.
You can use those extra funds to pay off other debt, invest in your future or make larger payments on your mortgage principal to pay off the loan faster. In the recent past, ARMs have charged as much as a full percentage point less than fixed mortgages. The increase is directly related to the rise in fixed mortgage rates, which were nearing 8 percent last fall, a level not seen since 2000. With less purchasing power at higher fixed rates, the lower introductory rates attached to ARMs have started to look much more appealing. However, if you’re going to stay in your home for decades, an ARM can be risky.
At the current average rate, you’ll pay $665.97 per month in principal and interest for every $100,000 you borrow. The average rate for a 15-year fixed mortgage is 6.29 percent, down 1 basis point from a week ago. At the conclusion of its latest meeting on Dec. 18, the adjustable rate mortgage rates Federal Reserve announced another quarter-point rate cut — the third cut in a row. Although the Fed has cut interest rates 100 basis points since September, mortgage rates have only risen, up 0.71 percentage points since September’s low, according to Bankrate data.
If broader interest rates decline, the interest rate on a fixed-rate mortgage will not decline. If you want to take advantage of lower interest rates, you would have to refinance your mortgage, which will entail closing costs. Before getting an ARM, you should also get an idea of where rates might head in the coming years.
For these averages, APRs and rates are based on no existing relationship or automatic payments. Monthly payments on a 15-year fixed mortgage at that rate will cost $860 per $100,000 borrowed. Our experts have been helping you master your money for over four decades.
The fact that payments remain the same provides predictability, which makes budgeting easier. Not every lender offers adjustable-rate mortgages, and those that do may not have the exact terms you’re looking for. If you don’t think you can comfortably afford the new monthly payment once the adjustment goes through, you may have to cut costs in other areas. An adjustable-rate mortgage is a home loan with a variable interest rate. This means your ARM rate can change every few months or annually, depending on your terms.
Consider consulting with a professional financial advisor to review the mortgage options for your specific situation. The main advantage of a fixed-rate loan is that the borrower is protected from sudden and potentially significant increases in monthly mortgage payments if interest rates rise. If you’re buying a short-term home and plan to move away or upsize in a few years, an ARM could save you money. You could benefit from the lower rate and payment, then sell your home before the rate adjusts. An ARM can also be helpful in a rising-rate market where high fixed rates are pricing buyers out of the homes they wanted. Buying a home requires more than just saving up to get a mortgage and finding your perfect home.
A mortgage calculator can show you the impact of different rates and terms on your monthly payment. An ARM has a variable interest rate, while a fixed-rate mortgage has a constant rate for the entire loan term. With a 7/1 ARM, you have a fixed rate for the first seven years of the loan. Then, your rate adjusts annually for the remainder of your loan’s term. A 5/1 ARM means your rate is fixed for the first five years of the loan. After that point, your rate adjusts once per year for the rest of your loan term.
This can lead to lower payments in the short term but introduces the risk of rising payments in the future. Understanding the benefits and risks of each type will help you make an informed decision tailored to your financial situation and homeownership plans. Bankrate.com is an independent, advertising-supported publisher and comparison service. We are compensated in exchange for placement of sponsored products and services, or by you clicking on certain links posted on our site. While we strive to provide a wide range of offers, Bankrate does not include information about every financial or credit product or service. The best mortgage rate for you will depend on your financial situation.
Bankrate has partnerships with issuers including, but not limited to, American Express, Bank of America, Capital One, Chase, Citi and Discover. Life doesn’t always go as planned, and staying in the home for an extra few years could end up costing you if your rate goes up before you’re able to sell. In this situation, you might want to consider giving yourself a bigger buffer, such as getting a 10/6 ARM. Use our interactive Loan Estimate to double-check that all the details about your loan are correct. If something looks different from what you expected, ask your lender why.
When you get a mortgage, you’ll pay interest on the money you borrow. Your interest rate can be either fixed or adjustable — sometimes called variable. This booklet helps you understand important loan documents your lender gives you when you apply for an adjustable-rate mortgage (ARM). With nearly two decades in journalism, Dori Zinn has covered loans and other personal finance topics for the better part of her career. She loves helping people learn about money, whether that’s preparing for retirement, saving for college, crafting a budget or starting to invest. Her work has been featured in the New York Times, Wall Street Journal, CNN, Yahoo, TIME, AP, CNET, New York Post and more.
An adjustable-rate mortgage, or ARM, is a home loan that has an initial, low fixed-rate period of several years. After that, for the remainder of the loan term, the interest rate resets at regular intervals. When you get a mortgage, you can choose a fixed interest rate or one that changes. Typically, ARM loan rates start lower than their fixed-rate counterparts, then adjust upwards once the introductory period is over. Fixed-rate mortgages make up almost the entire mortgage market when rates are low.
If the balance rises too much, your lender might recast the loan and require you to make much larger, and potentially unaffordable, payments. For example, a 2/28 ARM features a fixed rate for two years followed by a floating rate for the remaining 28 years. In comparison, a 5/1 ARM has a fixed rate for the first five years, followed by a variable rate that adjusts every year (as indicated by the number one after the slash). Likewise, a 5/5 ARM would start with a fixed rate for five years and then adjust every five years.
Conforming loans are those that meet the standards of government-sponsored enterprises (GSEs) like Fannie Mae and Freddie Mac. They are packaged and sold off on the secondary market to investors. Nonconforming loans, on the other hand, aren’t up to the standards of these entities and aren’t sold as investments. “For those expecting a dramatic drop in 30-year mortgage financing rates, 2025 is probably not the year,” says Ken Johnson, Walker Family chair of Real Estate for the University of Mississippi. “As expected, the Fed lowered rates again by 0.25 percent — it also lowered its expectations for rate cuts in 2025,” says Melissa Cohn, regional vice president of William Raveis Mortgage.
This can make it more difficult to budget mortgage payments in a long-term financial plan. ARMs have a fixed period of time during which the initial interest rate remains constant. After that, the interest rate adjusts at specific regular intervals. The period after which the interest rate can change can vary significantly—from about one month to 10 years. Shorter adjustment periods generally carry lower initial interest rates.
If you keep the same loan with the same lender, your mortgage payment won’t change. An ARM, sometimes called a variable-rate mortgage, is a mortgage with an interest rate that changes or fluctuates during your loan term. Other loans typically have a fixed rate, where the interest rate doesn’t change over the life of the loan.
Fixed and adjustable-rate mortgages choosing depends on your financial goals and risk tolerance. Fixed-rate mortgages offer stable interest rates and predictable monthly payments, ideal for long-term planning and security. Adjustable-rate mortgages (ARMs), on the other hand, start with lower initial interest rates, which can adjust periodically based on market conditions.
