Adjustable
rate
mortgages
(ARMs)
have an
interest
rate
that
varies
over
time.
The
interest
on a
typical
ARM
adjusts
every
six to
twelve
months,
but it
may
change
as
frequently
as
monthly.
Other
ARMs
have an
initial
fixed
rate for
a period
of time,
after
which
the rate
will
adjusts
annually. ARMs are
tied to
a number
of
indexes,
which is
a
measure
of
general
interest
rate
trends
and is
used to
adjust
the
mortgage
rate
interest.
The
margin,
also
known as
the
spread,
on an
ARM is
the
markup,
or
profit,
that the
lender
makes on
the
mortgage
loan.
This
usually
amounts
to
between
2 and 4
percentage
points,
but the
exact
margin
depends
on the
lender
and the
index
used.
The most
common
index
for ARM
adjustments
is the
one year
U.S.
Treasury
bill.
This is
the
interest
rate
that the
government
pays on
some of
its
total
debt.
The most
commonly
used
government
interest
rate
indexes
for ARMs
are for
six-month
and
twelve-month
treasury
bills.
These
tend to
be among
the
faster
moving
indexes
around,
and
therefore
respond
quickly
to
market
changes
in
interest
rates.
Often,
people
are
attracted
to an
ARM
because
the
initial
interest
rate
tends to
be
significantly
less
than the
interest
on a
fixed
rate
mortgage.
However,
be
skeptical
of ARMs
with
initial
interest
rates
that
seem too
good to
be true.
You will
enjoy
the
artificially
low
interest
rates
for no
more
than six
to
twelve
months,
after
which
the
interest
rate
will be
adjusted
according
to the
loan's
index
and
margin.
Some
advantages
of ARMs
ARMs
tend to
start
out at
lower
initial
interest
rates
when
compared
to
fixed
rate
mortgages,
and this
may
enable
some
people
to
qualify
to
borrow
more.
Also,
because
there is
always
the risk
of
rising
interest
rates
with an
ARM,
lenders
are more
willing
to give
you a
lower
initial
interest
rate.
This can
result
in
considerable
savings
in the
initial
years of
an ARM
loan
when
compared
to that
of a
fixed
interest
rate
mortgage.
Other
advantages
of an
ARM is
that if
you
purchase
your
home
during a
period
of high
interest
rates,
you can
start
paying
your
mortgage
with the
lower
initial
interest
rate and
hope
that
rates
will
fall in
the
future.
In
addition,
if you
do not
plan on
keeping
your
home for
more
than a
few
years,
you can
transfer
your ARM
to
another
buyer
because
some
ARMs are
assumable.
Rate
Caps
A good
ARM
mortgage
offers
built-in
caps,
also
known as
rate
caps,
which
determine
how high
interest
rates
are
allowed
to rise.
Three
types of
rate
caps
exist:
-
Lifetime
Cap
-
Limits
the
highest
rate
allowed
over
the
life
of
the
loan.
Never
take
an
ARM
without
a
lifetime
cap,
and
be
sure
you
can
handle
the
maximum
payment
should
it
rise
to
the
lifetime
cap.
-
Periodic
Rate
Cap
-
Determines
the
maximum
rate
change
that
your
payments
can
rise
or
fall
at
each
adjustment.
-
Payment
Cap
-
Offered
in
some
ARMs,
this
cap
limits
the
amount
the
payment
can
rise
over
the
life
of
the
loan.
In some
instances,
it may
be
possible
to
obtain
an ARM
that can
be
converted
to a
fixed
rate
mortgage.
Ask your
lender.
Mortgage Glossary7
