Adjustable Rate Mortgages (ARM)
As the name suggests, adjustable-rate mortgages or (ARM)s have interest rates that can fluctuate during the term of the loan. These loans might come with a fixed rate during the initial period but depending on the market situation, they can become more or less expensive.
This might be off-putting for some borrowers but the best part about adjustable-rate mortgages is that the initial rate is much lower than what you’d get with a fixed-rate mortgage, enabling you to purchase your dream home much quicker. With a fixed initial rate, you can expect to pay off your ARM loans in 30 years.
To give you a better understanding, all ARM loans come with a margin and index, where margins vary from 1.75% to 3.5% contingent on the financing amount for the property value and index. An index is a financial tool that the adjustable-rate mortgages loans are tied to such as the 11th District Cost of Funds (COFI), LIBOR (London Interbank Offered Rate), Prime, 1-Year Treasury Security, and 6-Month Certificate of Deposit (CD).
The margin is added to the index in order to adjust the ARM. The amount is generally rounded to the nearest 1/8 of one percent to find the new interest rates. The next adjustment period then gets the new interest rates fixed. Some ARM loans can also be converted from an adjustable rate to a fixed rate for an additional charge. However, these new rates will still be higher than the current market interest rates.