What is an Adjustable Rate Mortgage (ARM)?

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An Adjustable Rate Mortgage (ARM) offers a lower fixed interest rate for an initial period, after which the rate adjusts periodically based on a market index. ARMs are a smart option for borrowers who plan to sell, refinance, or pay off the mortgage before the initial fixed period ends.

The initial fixed rate on an ARM is typically 0.5% to 1.0% lower than a comparable 30-year fixed rate mortgage, which can translate to significant monthly savings during the initial period.

How ARMs Work

Every ARM has three key components:

• Initial Fixed Period: Your interest rate stays the same for a set number of years. This is the period where you benefit from the lower rate.
• Adjustment Period: After the fixed period ends, your rate adjusts based on a market index (such as the Secured Overnight Financing Rate, or SOFR) plus a fixed margin set by the lender.
• Rate Caps: Built-in protections that limit how much your rate can change at each adjustment and over the life of the loan.

Common ARM Structures

Rate Caps Explained

Rate caps are built-in protections that limit how much your rate can increase. There are three types of caps:

• Initial Adjustment Cap: The maximum amount the rate can change at the first adjustment after the fixed period ends. Commonly 2% or 5%.
• Periodic Adjustment Cap: The maximum amount the rate can change at each subsequent adjustment. Commonly 1% or 2%.
• Lifetime Cap: The maximum amount the rate can ever increase over the life of the loan, measured from the initial start rate. Commonly 5% or 6%.

Example: If you start with a 5/1 ARM at 5.5% with 2/1/5 caps, your rate cannot exceed 7.5% at the first adjustment, cannot increase more than 1% at each subsequent adjustment, and can never exceed 10.5% over the life of the loan.

ARM Loan Programs Available

Adjustable rate mortgages are available across multiple loan programs:

• Conventional ARMs: Available for primary residences, second homes, and investment properties. Standard conforming loan limits apply.
• Jumbo ARMs: Available for loan amounts above the conforming limit. Jumbo ARMs often offer very competitive rates, making them popular with higher-value property buyers. Learn more about jumbo loans.
• VA ARMs: Available for eligible veterans and service members with VA benefits. The 5/1 ARM is the most common VA ARM structure.
• FHA ARMs: Available with FHA benefits including lower down payments and more flexible credit requirements.

When Does an ARM Make Sense?

An ARM may be the right choice if:

• You plan to sell or move within the initial fixed period
• You expect to refinance before the rate adjusts
• You want the lowest possible rate for the first several years to maximize cash flow
• You are buying in a market where you expect home values to increase, giving you refinance options later
• You want to pay down the principal faster during the lower-rate period
• You are comfortable with potential rate adjustments after the fixed period

ARM vs. Fixed Rate: A Quick Comparison

On a $500,000 loan, an ARM rate that is 0.75% lower than the 30-year fixed rate could save you approximately $250 per month during the initial fixed period. Over a 7-year fixed period, that adds up to over $21,000 in savings.

A fixed-rate mortgage provides certainty for the entire loan term, while an ARM provides lower initial costs with future uncertainty. The right choice depends on your plans for the property, your risk tolerance, and how long you expect to keep the mortgage.

Contact me to compare ARM vs. fixed-rate options side by side for your specific loan scenario.

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