Adjustable Rate Mortgages (ARMs) are home loans with interest rates that can change over time. They typically have a fixed rate for an initial period which is lower than the current market rate for a fixed loan. Most ARMs offer this introductory low rate for a period of 5, 7, or 10 years and then adjust periodically based on market conditions. The lowest starting rates are found on loans that have the shortest time between adjustments. When navigating rate adjustments, it is essential to understand how ARMs work.
What Factors Influence ARM Rate Adjustments?
Your rate will remain fixed during your introductory period. As you move into the adjustment period, it can increase or decrease depending on several factors, including the index, margin, interest rate caps, and frequency of the adjustments.
ARMs are tied to a specific financial index, or base interest rate, that changes over time. The most commonly used indices are the 1-Year Treasury Security, LIBOR (London Interbank Offered Rate), Prime, 6-Month Certificate of Deposit (CD), and the 11th District Cost of Funds (COFI). As conditions in financial markets change, the index rate can move up or down.
Your lender sets a margin in your loan agreement. The margin added to your index makes up your fully indexed rate. Margins typically range from 1.75 to 3.5 percent and do not change over the life of the loan.
Interest rate caps limit the amount by which your rate can increase during each adjustment period and over the life of the loan. The adjustment period dictates how often in a year your rate can adjust during the adjustment period.
How Can I Lower My Payment on an ARM?
Entering an adjustment period when interest rates are high can mean an increase in your mortgage payments and sticker shock for some homeowners. However, there are various ways to manage rising interest rates.
- Refinance to a fixed-rate mortgage: Refinancing to a fixed-rate mortgage allows borrowers to replace their current loan with a new one that has a fixed interest rate for the entire loan term, securing predictable monthly payments and protecting themselves from future rate increases.
- Pay down your principal: Borrowers who want to reduce the impact of a rate adjustment may consider making extra payments to reduce the principal balance. By reducing the principal, borrowers can potentially lower their monthly payment when the rate adjusts. Extra mortgage payments can be made in various ways, such as paying more than the minimum monthly payment or making additional lump sum payments.
- Sell your home to capitalize on accrued equity: If your home has appreciated in value, you may be able to sell it for more than you owe, netting a profit that you can put toward the purchase of a home with a more manageable mortgage payment.
Your mortgage loan servicer is required to send you disclosures detailing your interest rate, payment amount, and loan balance approximately eight months before your first ARM adjustment period. Your first notification should also include options you can explore if you are not able to afford the new rate and information on contacting a HUD-approved housing counselor.
As a local lender and servicer, Standard Mortgage Corporation handles all aspects of your loan, from pre-approval through closing to servicing and escrow. Your Loan officer will remain your point of contact throughout the life of your loan and can provide expert guidance to help you navigate changes in your financial situation, including potential interest rate adjustments or refinancing options. Contact a Standard Mortgage Loan Officer today to help you find the right way home.
