Choosing the right mortgage loan is a critical step in the homebuying process. If you’re looking for lower initial payments, an adjustable-rate mortgage (ARM) could be a smart option. But how does it work, and is it the right fit for you?
What Is an Adjustable-Rate Mortgage?
An adjustable-rate mortgage (ARM) is a home loan with an interest rate that changes over time. Unlike a fixed-rate mortgage, which maintains the same interest rate for the entire loan term, an ARM starts with a fixed-rate period before adjusting based on market conditions.
Key Features of an Adjustable-Rate Mortgage:
| Feature | Adjustable-Rate Mortgage (ARM) | Fixed-Rate Mortgage |
| Initial Interest Rate | Lower, leading to lower early payments | Higher but stable |
| Rate Adjustments | Yes, after the fixed period ends | No, remains the same |
| Best for Buyers Who | Plan to move or refinance within a few years | Prefer long-term stability |
How Does an ARM Work?
ARMs have two phases:
- Fixed Period – The interest rate remains unchanged for the first 5, 7, or 10 years.
- Adjustment Period – After the fixed period, the rate adjusts periodically (every 6 months or 1 year) based on a market index.
For example, a 5/1 ARM has a fixed rate for five years before adjusting annually. A 7/6 ARM holds its rate for seven years before adjusting every six months.
What Affects Your ARM Interest Rate?
Several factors determine how an ARM’s interest rate changes:
Rate Caps – Limits on how much the rate can rise:
Benchmark Index – Tied to market-based rates like the U.S. Treasury rate or SOFR.
Margin – A set percentage added by the lender. Lower margins are available to borrowers with strong credit.
What Are Rate Caps?
| Rate Cap Type | Purpose | Example |
| Initial Cap | Limits first rate increase after fixed period | 2% |
| Subsequent Cap | Controls later adjustments | 2% per year |
| Lifetime Cap | Maximum increase over loan term | 5% |
These safeguards help prevent drastic payment increases.
Types of Adjustable-Rate Mortgages
The structure of an ARM determines when adjustments begin:
| ARM Type | Fixed-Rate Period | Adjustment Frequency |
| 5/1 ARM | 5 years | Adjusts annually |
| 7/1 ARM | 7 years | Adjusts annually |
| 10/1 ARM | 10 years | Adjusts annually |
| 5/6 ARM | 5 years | Adjusts every 6 months |
Who Should Consider an Adjustable-Rate Mortgage?
An ARM can be a strategic choice if:
- You plan to sell before the first rate adjustment.
- You expect to refinance into a fixed-rate mortgage later.
- You want lower initial payments to free up cash for savings or investments.
Can You Refinance an ARM?
Yes, many homeowners refinance into a fixed-rate mortgage before the adjustable period begins. Refinancing makes sense if:
- Interest rates drop – Locking in a low, fixed rate can provide long-term savings.
- Your financial situation changes – Stable payments offer predictability.
- You plan to stay in the home long-term – Fixed mortgages eliminate uncertainty.
Before refinancing, compare current mortgage rates to ensure the switch benefits you.
Bottom Line
An adjustable-rate mortgage offers lower initial payments but comes with potential future rate increases. If you’re buying a starter home or moving within a few years, an ARM could save you money. However, if you prefer predictable payments, a fixed-rate mortgage may be the better option.
Want to see if an ARM is right for you? Get pre-approved today and explore your best mortgage option.
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