An adjustable-rate mortgage (ARM) is a home loan with an interest rate that can change periodically, meaning your monthly payments may fluctuate. Typically, the initial interest rate is lower than that of a comparable fixed-rate mortgage. Once the initial period ends, the interest rate — and your monthly payments — can either decrease or increase.
How does an adjustable-rate mortgage work?
The initial rate and payments in the first few years of an adjustable-rate mortgage (ARM) can differ significantly from those later in the loan’s term. Before committing to an ARM, ask your lender for the annual percentage rate (APR), which reflects the overall cost of the loan, including interest and fees. Comparing the APR to the initial interest rate can help you understand how much higher your costs might be after the initial period ends, even if interest rates remain stable.
ARMs typically have specific adjustment periods during which the interest rate and monthly payment can change. These adjustment periods are defined in the loan terms and may occur monthly, quarterly, or annually. For example, a loan with a one-year adjustment period is called a one-year ARM, meaning the interest rate and payment can change once every year. Similarly, a loan with a five-year adjustment period is referred to as a five-year ARM.
The interest rate for an ARM is based on two main components: the index and the margin. The index reflects prevailing interest rates and is variable, while the margin is an additional fixed amount your lender adds. After the initial fixed-rate period ends, your monthly payments will be determined by the fully indexed rate, which is the sum of the index and the margin. For example, if the index increases, your interest rate and monthly payments will likely rise as well. Conversely, if the index decreases, both your interest rate and monthly payments may go down.
It’s also important to note that caps—limits on how much the interest rate or payment can increase during adjustment periods or over the life of the loan—can influence these changes.
ARM rates vary among lenders, but most use common indexes to determine interest rates. Popular indexes include the one-year constant-maturity Treasury (CMT) securities, the Cost of Funds Index (COFI), and the London Interbank Offered Rate (LIBOR). Some lenders may also use their own cost of funds as an index. Before choosing a lender, inquire about the index they use and how it fluctuates to better understand what to expect from that lender and loan.
The margin is a percentage added to the interest rate on an ARM and typically remains consistent over the life of the loan. The index plus the margin is referred to as the fully indexed rate. For instance, if a lender uses an index of 3% and adds a 3% margin, the fully indexed rate would be 6%. Some lenders adjust the margin based on your credit score, meaning a higher credit score could result in a lower margin and reduced interest costs over the life of your loan.
What is the difference between a fixed-rate and an adjustable-rate mortgage (ARM)?
The key difference between a fixed-rate mortgage and an adjustable-rate mortgage (ARM) is that the interest rate on a fixed-rate mortgage remains the same for the entire life of the loan, while the interest rate on an ARM may increase or decrease over time.
People are often attracted to ARMs because they typically start with a lower interest rate than fixed-rate mortgages. This initial interest rate usually remains fixed during the introductory period, which can range from several months to a few years. Once this period ends, the interest rate on the ARM will adjust periodically, and your monthly payments may change accordingly.
An ARM’s interest rate is based on an index, which is a benchmark interest rate that reflects market conditions. Commonly used indexes include the one-year constant-maturity Treasury (CMT) securities, the Cost of Funds Index (COFI), and the London Interbank Offered Rate (LIBOR). If the index rises, your interest rate and monthly payments will likely increase; if the index falls, your interest rate and monthly payments may decrease.
With a fixed-rate mortgage, both the monthly payments and the interest rate remain consistent throughout the entire loan term. This stability makes it easier for borrowers to budget and manage their finances.
While ARMs can offer advantages, they also come with some uncertainties due to factors beyond your control, such as changes in the index. If you have any further questions about adjustable-rate mortgages, don’t hesitate to reach out.
An FHA loan is a government-backed mortgage insured by the Federal Housing Administration. These loans require lower minimum credit scores and down payments than many conventional loans, making them especially popular with first-time homebuyers. According to the FHA’s 2020 Annual Report, more than 83 percent of all FHA loan originations were for borrowers purchasing their first homes.
How does the FHA Streamline work?
According to the U.S. Department of Housing and Urban Development (HUD), the basic requirements for a streamlined refinance are as follows:Streamline refinances can be offered in several ways. For example, lenders may offer “no-cost” refinances, where borrowers pay no out-of-pocket expenses. Instead, the lender might charge a higher interest rate on the new loan if the borrower opts not to pay the closing costs in cash. In such cases, the lender covers any closing costs incurred during the transaction. According to FHA guidelines, lenders are not allowed to include closing costs in the new mortgage amount of a streamlined refinance. Simply put, an FHA streamlined refinance allows current FHA loan borrowers to lower the interest rate on their mortgage without having to meet an extensive list of criteria.
What are the FHA Streamlie programs?
The FHA Streamline program is a refinancing option for current homeowners who have an FHA loan. If existing FHA borrowers decide to refinance their mortgage, they can choose between a five-year adjustable-rate mortgage (ARM) or a fixed-rate loan with a term of 15, 20, 25, or 30 years. This program can be utilized under certain conditions, such as:What are FHA Streamline refinancing costs?
When refinancing through the FHA Streamline program, borrowers are typically required to pay closing costs. The key difference with streamline refinancing is that it does not require homeowners to pay for an appraisal. Homeowners can expect to pay between $1,000 and $5,000 in closing costs for an FHA streamline refinance. However, this amount could be higher or lower depending on factors such as your new loan amount, down payment, and other variables. If borrowers make a down payment of less than 20 percent of the home’s value, their lender may require them to purchase private mortgage insurance (PMI). Lenders can charge this premium upfront and include it in the new loan estimate. It’s important to note that PMI only protects the lender in case the borrower stops making payments. If you are interested in refinancing your current FHA loan or have any questions, please reach out using the contact information below.How does a VA loan work?
The VA loan process works similarly to any other conventional mortgage loan. Before lenders can approve applicants, they will need to verify the following:However, it’s important to note that the VA does not guarantee the condition of the home you are purchasing; it only guarantees the loan. This is a common misconception, so do not assume that the VA will handle any damages or defects that need to be repaired. This responsibility will fall to the potential homeowner.
The loan must be for an eligible purpose.
What are the requirements to obtain a VA loan? How do I qualify?
To obtain a VA loan, applicants are required by law to meet the following criteria:What are the benefits of JUMBO loan?
What are the JUMBO loan requirements ?
Just like a conforming loan, jumbo loans have a similar application and evaluation process. Mortgage lenders will consider your credit score, down payment amount, current debt, debt-to-income ratio, employment history, money left over after closing, and more.