With (ARM) Adjustable Rate Mortgages, the interest rate stays fixed for the initial loan term, then adjusts up or down based on a specified index rate. The rate and monthly payment change once every 6 or 12 months with most ARMs. ARMs usually come with initial rates one to three percentage points below those of 30- and 15- year fixed-rate loans. There are several questions you should ask your lender before getting an ARM:
- How is the rate figured? The rate you pay on an ARM is based on the selected index rate plus a fixed extra amount called a margin. For example, if the index rate is 5% and your margin is 2.5%, your interest rate will be 7.5%. Find out what index your lender uses and what the margin is.
- How often can monthly payments change? Depending on the program, your monthly payments can move up or down monthly, twice a year or annually. Most ARMs allow only annual payment changes.
- Does the ARM include caps? Most ARMs have limits (caps) that restrict the size of the interest rate or monthly payment changes.
- Is the ARM convertible? Some ARM programs allow you to convert from an adjustable rate to a fixed rate and payment.
- Are there any pre-payment penalties? Many ARM programs allow you to pre-pay your loan in whole or in part without penalty.