Adjustable Rate Mortgage (ARM)

An adjustable rate mortgage (ARM) is a mortgage loan where the interest rate on the note is periodically adjusted based on a variety of indices.  Among the most common indices are the  the London Interbank Offered Rate (LIBOR) and the U.S. Prime Rate.  This is done to ensure a steady margin for the lender, whose own cost of funding will usually be related to the index. Consequently, payments made by the borrower may change over time with the changing interest rate (alternatively, the term of the loan may change). This is not to be confused with the graduated payment mortgage, which offers changing payment amounts but a fixed interest rate.  Adjustable rates transfer part of the interest rate risk from the lender to the borrower. They can be used where unpredictable interest rates make fixed rate loans difficult to obtain. The borrower benefits if the interest rate falls and loses out if interest rates rise.

Adjustable Rate Mortgages are commonly used for the Cross Border Lending Programs in Latin America.  Although the programs will be similar, there are differences that should be taken into account in each country; make sure you ask your Mortgage Specialist for all the details regarding Adjustable Mortgage Loan Programs. 

Basic features of ARMs

The most important basic features of ARMs are:

1. Initial interest rate. This is the beginning interest rate on an ARM.
2. The adjustment period. This is the length of time that the interest rate or loan period on an ARM is scheduled to remain unchanged. The rate is reset at the end of this period, and the monthly loan payment is recalculated.
3. The index rate. Most lenders tie ARM interest rates changes to changes in an index rate. Lenders base ARM rates on a variety of indices, the most common being LIBOR and Prime. 
4. The margin. This is the percentage points that lenders add to the index rate to determine the ARM's interest rate.
5. Interest rate caps. These are the limits on how much the interest rate or the monthly payment can be changed at the end of each adjustment period or over the life of the loan.
6. Initial discounts. These are interest rate concessions, often used as promotional aids, offered the first year or more of a loan. They reduce the interest rate below the prevailing rate (the index plus the margin).
7. Negative amortization. This means the mortgage balance is increasing. This occurs whenever the monthly mortgage payments are not large enough to pay all the interest due on the mortgage. This may be caused by the payment cap contained in the ARM when are high enough that the principal plus interest payment is greater than the payment cap.
8. Conversion. The agreement with the lender may have a clause that allows the buyer to convert the ARM to a fixed-rate mortgage at designated times.
9. Prepayment. Some agreements may require the buyer to pay special fees or penalties if the ARM is paid off early. Prepayment terms are sometimes negotiable

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Office Phone: 214 774 2204

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