# How to calculate arm mortgage payments

### Similar video

How to build an Amortization table in EXCEL (Fast and easy) Less than 5 minutes## What is the formula for the monthly payment on an adjustable rate mortgage?

Normally in a variable rate mortgage the payment would vary with the rate. However here is a formula for a fixed payment, (where, as the OP says, the rate adjustment is known in advance):

where

Here is how the formula is derived.

First, taking a simplified problem to show the workings more clearly.

Let's say a £100,000 loan repaid by 5 annual payments. The first 2 years at 3% and the following 3 years at 4%.

The loan amount is equal to the sum of the present value of the payments. These are the present values of the payments for each period, discounted by the interest rate(s):-

And

This can be expressed as a summation

and converted to a formula by induction:

Rearranging to give a formula for the payment:

*Amortization table for the above result showing figures and formulas*

Returning to the OP's example for, say, a loan of one million, with the effective rate of interest at 3% for the first 5 years and 4% for the following 20 years.

The payment

**Note for the use of nominal rates**

For nominal interest rates of 3% and 4% compounded monthly:

The payment

## How To Calculate Your Mortgage Payment: Fixed, Variable, and More

Understanding your mortgage helps you make better financial decisions. Instead of just accepting offers blindly, it’s wise to look at the numbers behind any loan—especially a significant loan like a home loan.

### Key Takeaways

- You can calculate your monthly mortgage payment by using a mortgage calculator or doing it by hand.
- You'll need to gather information about the mortgage's principal and interest rate, the length of the loan, and more.
- Before you apply for loans, review your income and determine how much you’re comfortable spending on a mortgage payment.

### Getting Started With Calculating Your Mortgage

People tend to focus on the monthly payment, but there are other important features that you can use to analyze your mortgage, such as:

- Comparing the monthly payment for several different home loans
- Figuring how much you pay in interest monthly, and over the life of the loan
- Tallying how much you actually pay off over the life of the loan, versus the principal borrowed, to see how much you actually paid extra

Use the mortgage calculator below to get a sense of what your monthly mortgage payment could end up being,

### The Inputs

Start by gathering the information needed to calculate your payments and understand other aspects of the loan. You need the details below. The letter in parentheses tells you where we’ll use these items in calculations (if you choose to calculate this yourself, but you can also use online calculators):

- The
**loan amount**(P) or principal, which is the home-purchase price plus any other charges, minus the down payment - The annual
**interest rate**(r) on the loan, but beware that this is not necessarily the APR, because the mortgage is paid monthly, not annually, and that creates a slight difference between the APR and the interest rate - The
**number of years**(t) you have to repay, also known as the "term" - The number of
**payments per year**(n), which would be 12 for monthly payments - The
**type of loan**: For example, fixed-rate, interest-only, adjustable - The
**market value**of the home - Your
**monthly income**

### Calculations for Different Loans

The calculation you use depends on the type of loan you have. Most home loans are standard fixed-rate loans. For example, standard 30-year or 15-year mortgages keep the same interest rate and monthly payment for their duration.

For these fixed loans, use the formula below to calculate the payment. Note that the carat (^) indicates that you’re raising a number to the power indicated after the carat.

**Payment = P x (r / n) x (1 + r / n)^n(t)] / (1 + r / n)^n(t) - 1**

### Example of Payment Calculation

Suppose you borrow $100,000 at 6% for 30 years, to be repaid monthly. What is the monthly payment? The monthly payment is $599.55.

Plug those numbers into the payment formula:

- {100,000 x (.06 / 12) x [1 + (.06 / 12)^12(30)]} / {[1 + (.06 / 12)^12(30)] - 1}
- (100,000 x .005 x 6.022575) / 5.022575
- 3011.288 / 5.022575 = 599.55

You can check your math with the Loan Amortization Calculator spreadsheet.

### How Much Interest Do You Pay?

Your mortgage payment is important, but you also need to know how much of it gets applied to interest each month. A portion of each monthly payment goes toward your interest cost, and the remainder pays down your loan balance. Note that you might also have taxes and insurance included in your monthly payment, but those are separate from your loan calculations.

An amortization table can show you—month-by-month—exactly what happens with each payment. You can create amortization tables by hand, or use a free online calculator and spreadsheet to do the job for you. Take a look at how much total interest you pay over the life of your loan. With that information, you can decide whether you want to save money by:

- Borrowing less (by choosing a less expensive home or making a larger down payment)
- Paying extra each month
- Finding a lower interest rate
- Choosing a shorter-term loan (15 years instead of 30 years, for example) to speed up your debt repayment

Shorter-term loans like 15-year mortgages often have lower rates than 30-year loans. Although you would have a bigger monthly payment with a 15-year mortgage, you would spend less on interest.

### Interest-Only Loan Payment Calculation Formula

Interest-only loans are much easier to calculate. Unfortunately, you don’t pay down the loan with each required payment, but you can typically pay extra each month if you want to reduce your debt.

*Example:* Suppose you borrow $100,000 at 6% using an interest-only loan with monthly payments. What is the payment? The payment is $500.

Loan Payment = Amount x (Interest Rate / carolina trust federal credit union mobile banking

**Loan payment = $100,000 x (.06 / 12) = $500**

Check your math with the Interest Only Calculator on Google Sheets.

In the example above, the interest-only payment is $500, and it will remain the same until:

- You make additional payments, above and beyond the required minimum payment. Doing so will reduce your loan balance, but your required payment might not change right away.
- After a 2020 jaguar f pace svr number of years, you’re required to start making amortizing payments to pay down the debt.
- Your loan may require a balloon payment to pay off the loan entirely.

### Adjustable-Rate Mortgage Payment Calculation

Adjustable-rate mortgages (ARMs) feature interest rates that can change, resulting in a new monthly payment. To calculate that payment:

- Determine how many months or payments are left.
- Create a new amortization schedule for the length of time remaining (see how to do that).
- Use the outstanding loan balance as the new loan amount.
- Enter the new (or future) interest rate.

*Example:* You have a hybrid-ARM loan how to calculate arm mortgage payments of $100,000, and there are ten years left on the loan. Your interest rate is about to adjust to 5%. What will the monthly payment be? The payment will be $1,060.66.

### Know How Much You Own (Equity)

It’s crucial to understand how much of your home you actually own. Of course, you own the home—but until it’s paid off, your lender has a lien on the property, so it’s not yours free-and-clear. The value that you own, known as your "home equity," is the home’s market value minus any outstanding loan balance.

You might want to calculate your equity for several reasons.

**Your loan-to-value (LTV) ratio**is critical, because lenders look for a minimum ratio before approving loans. If you want to refinance or figure out how big your down payment needs to be on your next home, you need to know the LTV ratio.**Your net worth**is based on how much of your home you actually own. Having a one million-dollar home doesn’t do you much good if you owe $999,000 on the property.**You can borrow against your home**using second mortgages and home equity lines of credit (HELOCs). Lenders often prefer an LTV below 80% to approve a loan, but some lenders go higher.

### Can You Afford the Loan?

Lenders tend to offer you the largest loan that they’ll approve you for by using their standards for an acceptable debt-to-income ratio. However, you don’t need to take the full amount—and it’s often a good idea to borrow less than the maximum available.

Before you apply for loans or visit houses, review your income and your typical monthly expenses to determine how much you’re comfortable spending on a mortgage payment. Once you know that number, you can start talking to lenders and looking at debt-to-income ratios. If you do it the other way around (ignoring your expenses and basing your housing payment solely on your income), you might start shopping for more expensive homes than you can afford, which affects your lifestyle and leaves you vulnerable to surprises.

It’s safest to buy less and enjoy some wiggle room each month. Struggling to keep up with payments is stressful and risky, and it prevents you from saving for other goals.

### Frequently Asked Questions (FAQs)

### What is a fixed-rate mortgage?

A fixed-rate mortgage is a home loan that has the same interest rate for the life of the loan. This means your monthly principal and interest payment will stay the same. The proportion of how much of your payment goes toward interest and principal will change each month due to amortization. Each month, a little more of your payment goes toward principal and a little less goes toward interest.

### What is an interest-only mortgage?

An interest-only mortgage is a home loan that allows you to only pay the interest for the first several years you have the mortgage. After that period, you'll need to pay principal and interest, which means your payments will be significantly higher. You can make principal payments during the interest-only period, but you're not required to.

## What Is An Adjustable-Rate Mortgage?

### How Does An Adjustable-Rate Mortgage Work?

As discussed above, an adjustable-rate mortgage is a home loan with an interest rate that adjusts over time based on market conditions. With a 30-year term, an ARM’s initial rate is fixed for a specified number of years at the beginning of the loan term and then adjusts for the remainder of the term.

Before we can discuss ARM loans, there are a few terms to understand.

### Adjustable-Rate Mortgage (ARM) Terminology

**Variable Rate**

A variable interest rate, also known as an adjustable or floating rate, varies over time. This means that the interest rate is different throughout the lifespan of a loan. The fluctuation is due to variations in the index, which acts as the rate’s benchmark.

**Indexes For Adjustable-Rate Mortgages**

Indexes are economic indicators used to calculate interest rate adjustments for adjustable-rate mortgages. The ARM loan’s tj maxx rockland maine rate can increase or decrease at any time.

As of this writing, the most-used indexes are:

**Secured Overnight Financing Rate (SOFR)****:**Formerly the broad Treasuries financing rate, this index is the successor to LIBOR. It measures the cost of borrowing cash on an overnight basis, but to keep it simple, just know it’s a major factor in determining your variable rate at any given time.**Constant maturity****:**The 1-year constant maturity Treasury index is the most widely used in determining adjustments to the adjustable-rate mortgage interest rate. The value is derived from risk-free securities called Treasuries.**11th District Cost of Funds Index (COFI)****:**An index that reflects the average interest rate that the 11th Federal Home Loan Bank District pays for checking and savings accounts.

**Adjustable-Rate Mortgage Margin**

Margin is a percentage point predetermined by your lender that remains the same throughout the life of the loan. It’s used to determine the interest rate for loans. Once the initial fixed-rate term ends on an adjustable-rate mortgage, the interest rate typically adjusts annually, and this new rate is determined by adding the index to the margin.

Although this may cause the interest rate to increase, there are caps on how much it can increase.

**Adjustable Interest Rate Caps**

**Initial cap:**The maximum amount that the interest rate can adjust the first time it’s changed after the fixed period.**Periodic cap:**This puts a limit on the interest rate increase from one adjustment period to the next. The initial cap and the periodic cap may be the same or different.**Lifetime cap or ceiling:**This puts a limit on the interest rate increase or decrease over the life of the loan, and all adjustable-rate mortgages have a lifetime cap. Although these limits are put in place for rate increases, rates can decrease, too. However, since the margin stays the same throughout the life of the loan and is added to the index to get the interest rate, the rate will never fall below the margin.

**Adjustable-Rate Mortgage Cap Structure**

Cap structure is a numerical representation of each cap for the loan. This is presented in a series of three numbers that represent the three caps: initial cap, periodic cap and lifetime cap.

For example, a common rate cap is 2/1/5, which breaks down like this:

**Initial cap:**Your initial interest how to calculate arm mortgage payments can only change by up to 2% the first time it adjusts.**Periodic cap:**Each change after that is limited to 1% every 6 months.**Lifetime cap:**Throughout the rest of the loan gpa requirements for south carolina state university, the most the interest rate can increase or decrease is 5% from the fixed rate. So, if your original rate was 3.5%, your interest rate can only go up to 8.5% during the life of your loan.

## Is an adjustable-rate mortgage right for you?

Photo credit: © iStock/tab1962

So you’ve figured out how much home you can afford and now you’re wondering which kind of mortgage you should get? You are probably asking yourself Should I get a fixed- or adjustable-rate mortgage? We can help.

The big divide in the mortgage world is between the fixed-rate mortgage and the adjustable-rate mortgage (ARM). Why two kinds of mortgages? Each appeals to a set of customers with different needs. Read on to find out which one makes sense for you.

### Old Faithful: The Fixed-Rate Mortgage

A fixed-rate mortgage is what most people think of when they imagine how to finance a home purchase. When you get a fixed-rate mortgage, you’ll commit to a single interest rate for the life of the loan. That rate depends on market interest rates, on your credit score and on your down payment.

If interest rates are high when you get your mortgage, your monthly payments will be high too because you’re locked in to the fixed rate. And if interest rates later go down you’ll have to refinance your mortgage in order to take advantage of the lower rates. To refinance, you’ll have to go through the hassle of putting together your paperwork, applying for a mortgage and paying for closing costs all over again.

The big draw of the fixed-rate mortgage, though, is that it gives the homebuyer some certainty in an uncertain world. Lots of things can happen over the life of your mortgage: job loss, uninsured illness, tax increases, etc. But with a fixed-rate mortgage, you can be sure is honey pot good for you a hike in the interest you pay each month won’t be one of those financial snags.

With a fixed-rate mortgage, the lender bears the risk that interest rates will go up and they’ll miss out on the chance to charge you more each month. If rates go up, there’s no way they can increase your payments and you can rest easy. In other words, the fixed-rate mortgage is the dependable option.

### Get a fixed-rate mortgage if…

**You couldn’t afford a rise in your monthly payments.**We would advise against stretching your budget to afford a house and we recommend homebuyers leave themselves an emergency fund of at least three months, just in case things get hairy.

If a rise in interest rates would leave you unable to make your mortgage payments, the fixed-rate mortgage is the one for you. Those without a lot of financial cushion, or people who simply want to put extra money toward padding their emergency fund or contributing to retirement plans, should probably stay away from an adjustable-rate mortgage in favor of the predictability partners 1st luray va the fixed-rate loan.

**You want to stay in the house for a long time.**Most Americans don’t stay in their homes for more than 10 years. But if you’ve found that perfect place and you want to stay there for how to calculate arm mortgage payments long haul, a 30-year fixed-rate mortgage makes sense. Yes, you’ll pay a decent chunk of change in interest over the life of the loan, but you’ll also be protected from rises in interest rates during that long period of time.

The reason rates are higher for 30-year fixed-rate loans than they are for shorter-term loans and ARMs is that banks need some sort of insurance that they won’t regret lending to you if rates go up during the life of the loan. In other words, banks are giving up their flexibility to raise your rates when they give you a fixed-rate mortgage. You make this up to them by paying higher rates. If you commit to paying more each month for a fixed-rate mortgage and then leave the central bank of india online atm apply before you’ve built much equity, you’ve essentially overpaid for your mortgage.

**You don’t like risk.**The recent financial crisis left a lot of people feeling pretty spooked by debt. It’s important to be aware of your comfort with different levels of risk before you take on a home mortgage, which for many Americans is the biggest piece of debt they will ever have.

If knowing that your mortgage interest rates could increase would keep you up at night and give you heart palpitations, it’s probably best to stick with a fixed-rate mortgage. Mortgage decisions aren’t just about dollars and cents—they’re also about making sure you feel good about the money you’re spending and the home you’re getting for it.

### The Adjustable-Rate Mortgage

Photo credit: © iStock/James Brey

Not everyone needs the dependability of the fixed-rate mortgage. For those borrowers, there’s the adjustable-rate mortgage. It is also known as the ARM.

With an ARM, you carry the risk that interest rates will rise — but you also stand to gain more easily if rates go down. Plus you get lower introductory rates. Those lower introductory rates are usually what draw people to an ARM, but they don’t last forever so it’s important to look beyond them and understand what could happen to your rates during the life of the loan.

What is an adjustable-rate mortgage? A simple adjustable-rate mortgage definition is: a mortgage whose interest rate can change over time. Here’s how it works: It starts off very similar to a fixed-rate mortgage. With an ARM you commit to a low interest rate for a given term, usually 3, 5, 7 or 10 years depending on the loan you choose. Once the fixed-rate term ends, your interest rate becomes adjustable for the rest of the life of the loan.

That means your interest rate can go up or down, depending on changes in the interest rate that acts as the index for the mortgage rate, plus a margin, usually between 2.25% and 2.75%. In other words, your interest rate and monthly payments could go up, but if they do it’s probably because changes in the economy are raising the index rate, not because your lender is trying to be a jerk.

The index rate that drives changes in mortgage rates is usually the LIBOR rate. LIBOR stands for “London Interbank Offered Rate.” It’s an interest rate derived from the rates that big banks charge each other for loans in the London market. You don’t need to worry too much about what it is, but you do need to be prepared for what it could do to your monthly payments.

How do you know what to expect from an ARM? Lenders embed youtube video in constant contact adjustable-rate mortgages in a way that tells you the length of the introductory rate and how often the rates will readjust. A five-year adjustable-rate mortgage doesn’t mean you pay off the house in five years. Instead, it refers to the length of the introductory term. For example, a 5/1 (“5 by 1”) ARM will have an initial term of five years, and at the end of those five years your interest rate will adjust once per year. Most ARMs adjust yearly, on the anniversary of the mortgage.

Now that you know the formula you’ll be able to decipher the most common forms of adjustable mortgages - the 3/1 ARM, 3/3 ARM, 5/1 ARM, 5/5 ARM, 10/1 ARM and the 7/1 ARM. Note that a 3/3 ARM adjusts every three years and a 5/5 ARM adjusts every five years. Some loans defy this formula, as in the case of the 5/25 balloon loan. With a 5/25 mortgage, your interest rate is fixed for the first five years. It then jumps to a higher rate, which is yours for the remaining 25 years of the 30-year mortgage. Always read the fine print.

Your lender will also tell you the maximum percentage rate-change allowable per adjustment. This is called the “adjustment cap.” It’s designed to prevent the kind of payment shock that would occur if a borrower got slammed with a huge rate increase in a single year. Rate my professor west valley college adjustment cap for ARMs with a five-year fixed term is usually 2%, but could go up to 4% for loans with longer fixed terms. It’s important to check the adjustable-rate mortgage caps for any home loans you’re considering.

A good ARM should also come with a rate cap on the total number of points by which your interest rate could go up or down over the life of your loan. For example if your total rate cap is 6%, your rate will stay at the introductory rate of 2.75% for five years and then could go up 2% per year from there, but it would never go above 8.75%.

### Get an adjustable-rate mortgage if…

**You know you won’t be in the home for long.**Adjustable-rate mortgages start with a fixed-rate term, usually up to five years. If you’re confident you will want to sell the home during that first loan term, you stand to gain from the lower initial interest rates of an ARM.

Many people who choose ARMs do so for their “starter” homes and then sell and move on before getting hit with an interest rate increase. Maybe you’re planning to move to a different city in a few years, or you know you want to start a family and you’ll need to find a bigger place.

If you don’t picture yourself growing old in the house you’re buying — or specifically staying for more than the fixed-rate term of the loan — you could get an ARM and reap the benefits of the low introductory rates. Just remember that there’s no guarantee you’ll be able to sell the home when you want to.

**You want to avoid the hassle of a refinance.**If you get an ARM and interest rates drop, you can sit back and relax while your monthly mortgage payments drop as well. Meanwhile, your neighbor with the fixed-rate loan will need to refinance to take advantage of lower interest rates.

Lots of people only talk about the worst-case scenario of the ARM, where interest rates go up to the maximum rate cap. But there’s also a best-case scenario: a buyer's monthly payments go down during the variable term of the loan because market interest rates are falling. Of course, interest rates have been so low lately that this scenario isn’t terribly likely to occur in the near future.

**You’ve budgeted for a possible interest-rate hike.**If you’re certain that you could afford to pay more each month in the event of a rise in interest rates, you’re a good candidate for an ARM. Remember, there is a maximum rate hike attached to every ARM, so it’s not like you have to budget for 50% interest rates. An adjustable-rate mortgage calculator can help you figure out your maximum monthly payments.

### Watch out for… the option ARM

The lending market has gotten more consumer-friendly since the financial crisis, but there are still some pitfalls out there for unwary borrowers. One of them is the option ARM. It doesn’t sound too bad, right? Who doesn’t like options?

Well, the problem with the option ARM is that it makes it harder for you pay off your mortgage. It’s the kind of mortgage that a lot of borrowers signed up for before the financial crisis.

With an option ARM, you’ll have a choice between making a minimum payment, an interest-only payment and a maximum payment each month. The minimum payment is less than a full interest payment, the interest-only payment just takes care of that month’s interest and the maximum payment acts like a normal loan payment, where part of the payment eats away at the interest and part of the payment builds equity by cutting into the principal. If you make the minimum payment, the amount of interest you don’t pay off gets added to the total that you owe and your debt snowballs.

Option ARMs can lead to what’s called “negative amortization.” Amortization is when the payments you make go to more and more of the principal and the loan eventually gets paid off. Negative amortization is when your payments just go to interest — and not enough interest at that — and you find yourself owing more and more, not less and less, over time.

### Adjustable-Rate Mortgage vs. Fixed-Rate Mortgage: The Final Showdown

If you’ve made it this far, you’re a savvy borrower who knows the difference between a fixed-rate mortgage and an ARM. You understand the fixed-rate and adjustable-rate mortgage pros and cons. It’s time to think about how long you want to stay in your new home, how risk-tolerant you are and how you would handle a rate hike. You’ll also want to take a look at the fixed- and adjustable-rate mortgage rates that are available to you.

## Adjustable Rate Mortgage Calculator

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Use our Adjustable Rate Mortgage Calculator to determine your initial mortgage payment, potential future payments and worst case scenario for an adjustable rate mortgage (ARM). Your mortgage rate and monthly payment can change and potentially increase significantly with an adjustable rate mortgage and you can use this calculator to understand what your rate and payment may be in the future. We encourage you to use this calculator to evaluate multiple scenarios to understand if an ARM is the right mortgage option for you.

Watch our Adjustable Rate Mortgage Calculator "How To" video

### How Our Adjustable Rate Mortgage Calculator Works

Adjustable Rate Mortgages have an initial fixed rate period when your interest rate and monthly payment remain constant. Following the fixed rate period, your mortgage rate and payment are subject to *how to calculate arm mortgage payments* on an annual or semi-annual basis, depending on the adjustment period for your loan. ARMs are relatively complicated and our Adjustable Rate Mortgage Calculator factors in all important loan terms to enable you to evaluate multiple scenarios. Our calculator uses the following inputs:

** Mortgage Term.**This is the length of your mortgage. Most ARMs have 30 year terms.

** Fixed Rate Period.** This is the initial period of the loan when your interest rate and monthly payment are fixed and do no change. The fixed rate period is usually three, five, seven or ten years.

** Fixed Period Interest Rate.** This is your mortgage rate during the fixed rate period of the loan. The lower your fixed period rate, the lower your initial monthly payment.

** Adjustment Period.** This determines how frequently your loan adjusts during the adjustable rate phase

**how to calculate arm mortgage payments**the mortgage. Most ARMs adjust annually or every six months.

** ARM Index.** This is an interest rate such as treasury note yield that is one of two factors that determines your fully-indexed rate, which is your interest rate during the adjustable rate period of the mortgage. The ARM index changes based on fluctuations in the economy and other factors.

** ARM Margin.** This margin is added to the ARM index to calculate the fully-indexed rate. The ARM margin is a set when your loan closes and does not change.

** Initial Adjustment Cap.** This is how much your mortgage rate can increase when it first adjusts after the fixed rate period expires. The initial adjustment cap is usually 2% or 5%.

** Subsequent Adjustment Cap.** This is how much your mortgage rate can change at any adjustment period following the initial adjustment.

** Life Cap.** This is the maximum amount your mortgage rate can increase over the course of an ARM. The fixed period interest rate plus the life cap equals the maximum mortgage rate you may pay with an adjustable rate mortgage.

Our calculator enables you to understand numerous scenarios for an ARM including the following:

** Initial Monthly Payment.** Understand your estimated monthly payment during the initial fixed rate period of the loan. This is the payment you make immediately after your loan closes for a set number of years, depending on your fixed period interest rate and length.

** Current Fully-Indexed Rate Scenario.** The calculator enables you to review the current fully-indexed rate and what your monthly payment is based on this rate. The fully-indexed rate changes over time but this output enables you to understand what your payment may be when the loan starts adjusting. You can also determine total interest expense for victorias secret pink glitter perfume ARM based on applying the fully-indexed rate for the entire adjustable rate period of the loan.

** Worst Case Scenario.** The final scenario the calculator shows you is the worst case scenario for an adjustable rate mortgage, when your interest rate and monthly payment increase as much as possible as quickly as possible. The calculator also determines the maximum interest rate at the first adjustment period and over the life of the mortgage. You can also understand the monthly payments based on these interest rates so you can understand the potential for payment shock with an ARM.

Although this scenario is relatively unlikely our Adjustable Rate Mortgage Calculator enables you understand all of the potential outcomes for an adjustable rate mortgage, both positive and negative.

### What Borrowers Should Know About Adjustable Rate Mortgages (ARMs)

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### Adjustable Rate Mortgage Basics

With an adjustable rate mortgage (ARM) your interest rate and monthly payment are fixed for the first one, three, five, seven or ten years of the loan and then subject to change and potentially increase annually or semi-annually over the remainder of the loan term. ARMs are often referred to as 3/1, 5/1, 7/1 or 10/1 ARMs with the first number indicating the length of the initial fixed rate period and the second number indicating how frequently the interest rate can change during the adjustable rate period. For example, with a 7/1 ARM, the interest rate and monthly mortgage payment are fixed for the first seven years of the loan and then subject to change on an annual basis for the remaining 23 years of the mortgage. Most adjustable rate mortgages have 30 year loan terms.

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### The Interest Rate for an Adjustable Rate Mortgage

The interest rate for an adjustable rate mortgage during the initial fixed rate period is set by the lender based on market conditions and negotiations with the borrower. The interest rate during the adjustable rate period is called the fully-indexed rate and is determined by adding the ARM index to the ARM margin. The ARM margin is a set interest rate, usually between between 2.0% and 3.0%, that does not change over the course of your mortgage. The ARM index is an underlying interest rate, such as the 30 day average SOFR, one year LIBOR or the treasury rate, that fluctuates based on economic factors. Because you add the index to the margin to determine your mortgage rate, if the ARM index increases, your mortgage rate increases but if the index decreases, your rate goes down. The fully-indexed rate is used to calculate your monthly mortgage payment for an ARM so an increase in that rate increases your payment. ARMs use adjustment caps that limit the increase in interest rate at the first adjustment period, subsequent adjustment periods and over the life of the mortgage. The life cap for an adjustable rate mortgage is usually 5.0%, so if your initial interest rate is 2.750%, the maximum interest rate you could pay over the life of the loan is 7.750%. With our Adjustable Rate Mortgage Calculator, you can use different inputs for the ARM margin and index as well as the adjustment and life caps to evaluate numerous scenarios for an ARM.

3

### Advantages of an Adjustable Rate Mortgage

Advantages of an ARM include a lower initial interest rate as compared to a fixed rate mortgage and lower initial monthly mortgage payment. The lower initial payment and interest rate also mean that borrowers can typically afford a larger mortgage with an ARM. Use our ARM Calculator to determine your lower initial payment with an ARM. Adjustable rate mortgages can also be a good option for borrowers in a high interest rate environment if you think mortgage rates will go down in the future. In that scenario you pay a lower interest rate initially and then you benefit further when your interest rate and payment decline if rates drop in the future. Predicting interest rates is highly challenging and exposes borrowers to significant risk.

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### Disadvantages of an Adjustable Rate Mortgage

Disadvantages of an adjustable rate mortgage include the possibility that your mortgage rate and monthly payment spike in the *how to calculate arm mortgage payments.* With some ARMs your interest rate can increase by 50% or more at any adjustment period which would cause your mortgage payment to increase significantly. In general, ARMs are better suited for borrowers with a higher tolerance for risk or who are going to own their home for a shorter period of time (less than the length of the fixed rate period of the loan). Borrowers who value peace of mind and certainty should avoid the potential risks associated with an ARM. By presenting the worst case scenario, our calculator quantifies the disadvantages of an ARM.

5

### Payment Shock Can Hurt

No one likes to think about the worst possible outcome but borrowers should understand possible payment shock for an ARM. In many cases the interest rate for an ARM can increase up to 5% over the course of the loan. So if your initial interest rate is 3.5% and the life cap for your loan is 5.0%, then your maximum rate could be as high how to calculate arm mortgage payments 8.5%, which is more than double your starting rate. Although a lot of things have to go wrong, it is important to be aware of the potential for a significant and sudden increase in your interest rate and how your payment could spike with an adjustable rate mortgage. Understanding how an ARM works helps you prevent payment shock and better manage your finances.

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Current Adjustable Rate Mortgage (ARM) Rates in Paris,Île-de-France as of December 3, 2021

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Data provided by Brown Bag Marketing, Inc. Payments do not include amounts for taxes and insurance premiums. Read through our lender table disclaimer for more on rates and product details.

While we pride ourselves on the quality and breadth of the FREEandCLEAR mortgage calculators please note that they should be used for informational purposes only. Our calculators rely on assumptions by us and inputs and assumptions provided by you, which may be inaccurate. The outputs from our calculators are estimates only and should not be used as the sole basis for making any financial decisions. How to calculate arm mortgage payments consult multiple financial professionals when determining the mortgage size and program that is appropriate for you.

### More FREEandCLEAR Mortgage Resources

#### Adjustable Rate Mortgage Rates

Review adjustable rate mortgage rates in your area based on initial interest rate, discount points, credit score and other inputs. Comparing ARM mortgage rates from multiple lenders enables you to find the mortgage with the best terms

*Sources*

"For an adjustable-rate mortgage (ARM), what are the index and margin, and how do they work?” *CFPB*. Consumer Financial Protection Bureau, November 15 2019. Web.

### About the calculator developer

Harry Jensen, Mortgage Expert

Harry is the co-founder of FREEandCLEAR. He is a mortgage expert with over 45 years of industry experience. Over his career, Harry has closed thousands of loans for satisfied borrowers and now offers his advice and insights on FREEandCLEAR. Harry is a licensed mortgage professional (NMLS #236752). More about Harry

### How to calculate arm mortgage payments -

## Adjustable Rate Mortgage Calculator

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*Calculator developed by*Harry Jensen, Trusted Mortgage Expert with 45+ Years of Experience

Use our Adjustable Rate Mortgage Calculator to determine your initial mortgage payment, potential future payments and worst case scenario for an adjustable rate mortgage (ARM). Your mortgage rate and monthly payment can change and potentially increase significantly with an adjustable rate mortgage and you can use this calculator to understand what your rate and payment may be in the future. We encourage you to use this calculator to evaluate multiple scenarios to understand if an ARM is the right mortgage option for you.

Watch our Adjustable Rate Mortgage Calculator "How To" video

### How Our Adjustable Rate Mortgage Calculator Works

Adjustable Rate Mortgages have an initial fixed rate period when your interest rate and monthly payment remain constant. Following the fixed rate period, your mortgage rate and payment are subject to change on an annual or semi-annual basis, depending on the adjustment period for your loan. ARMs are relatively complicated and our Adjustable Rate Mortgage Calculator factors in all important loan terms to enable you to evaluate multiple scenarios. Our calculator uses the following inputs:

** Mortgage Term.**This is the length of your mortgage. Most ARMs have 30 year terms.

** Fixed Rate Period.** This is the initial period of the loan when your interest rate and monthly payment are fixed and do no change. The fixed rate period is usually three, five, seven or ten years.

** Fixed Period Interest Rate.** This is your mortgage rate during the fixed rate period of the loan. The lower your fixed period rate, the lower your initial monthly payment.

** Adjustment Period.** This determines how frequently your loan adjusts during the adjustable rate phase of the mortgage. Most ARMs adjust annually or every six months.

** ARM Index.** This is an interest rate such as treasury note yield that is one of two factors that determines your fully-indexed rate, which is your interest rate during the adjustable rate period of the mortgage. The ARM index changes based on fluctuations in the economy and other factors.

** ARM Margin.** This margin is added to the ARM index to calculate the fully-indexed rate. The ARM margin is a set when your loan closes and does not change.

** Initial Adjustment Cap.** This is how much your mortgage rate can increase when it first adjusts after the fixed rate period expires. The initial adjustment cap is usually 2% or 5%.

** Subsequent Adjustment Cap.** This is how much your mortgage rate can change at any adjustment period following the initial adjustment.

** Life Cap.** This is the maximum amount your mortgage rate can increase over the course of an ARM. The fixed period interest rate plus the life cap equals the maximum mortgage rate you may pay with an adjustable rate mortgage.

Our calculator enables you to understand numerous scenarios for an ARM including the following:

** Initial Monthly Payment.** Understand your estimated monthly payment during the initial fixed rate period of the loan. This is the payment you make immediately after your loan closes for a set number of years, depending on your fixed period interest rate and length.

** Current Fully-Indexed Rate Scenario.** The calculator enables you to review the current fully-indexed rate and what your monthly payment is based on this rate. The fully-indexed rate changes over time but this output enables you to understand what your payment may be when the loan starts adjusting. You can also determine total interest expense for an ARM based on applying the fully-indexed rate for the entire adjustable rate period of the loan.

** Worst Case Scenario.** The final scenario the calculator shows you is the worst case scenario for an adjustable rate mortgage, when your interest rate and monthly payment increase as much as possible as quickly as possible. The calculator also determines the maximum interest rate at the first adjustment period and over the life of the mortgage. You can also understand the monthly payments based on these interest rates so you can understand the potential for payment shock with an ARM.

Although this scenario is relatively unlikely our Adjustable Rate Mortgage Calculator enables you understand all of the potential outcomes for an adjustable rate mortgage, both positive and negative.

### What Borrowers Should Know About Adjustable Rate Mortgages (ARMs)

1

### Adjustable Rate Mortgage Basics

With an adjustable rate mortgage (ARM) your interest rate and monthly payment are fixed for the first one, three, five, seven or ten years of the loan and then subject to change and potentially increase annually or semi-annually over the remainder of the loan term. ARMs are often referred to as 3/1, 5/1, 7/1 or 10/1 ARMs with the first number indicating the length of the initial fixed rate period and the second number indicating how frequently the interest rate can change during the adjustable rate period. For example, with a 7/1 ARM, the interest rate and monthly mortgage payment are fixed for the first seven years of the loan and then subject to change on an annual basis for the remaining 23 years of the mortgage. Most adjustable rate mortgages have 30 year loan terms.

2

### The Interest Rate for an Adjustable Rate Mortgage

The interest rate for an adjustable rate mortgage during the initial fixed rate period is set by the lender based on market conditions and negotiations with the borrower. The interest rate during the adjustable rate period is called the fully-indexed rate and is determined by adding the ARM index to the ARM margin. The ARM margin is a set interest rate, usually between between 2.0% and 3.0%, that does not change over the course of your mortgage. The ARM index is an underlying interest rate, such as the 30 day average SOFR, one year LIBOR or the treasury rate, that fluctuates based on economic factors. Because you add the index to the margin to determine your mortgage rate, if the ARM index increases, your mortgage rate increases but if the index decreases, your rate goes down. The fully-indexed rate is used to calculate your monthly mortgage payment for an ARM so an increase in that rate increases your payment. ARMs use adjustment caps that limit the increase in interest rate at the first adjustment period, subsequent adjustment periods and over the life of the mortgage. The life cap for an adjustable rate mortgage is usually 5.0%, so if your initial interest rate is 2.750%, the maximum interest rate you could pay over the life of the loan is 7.750%. With our Adjustable Rate Mortgage Calculator, you can use different inputs for the ARM margin and index as well as the adjustment and life caps to evaluate numerous scenarios for an ARM.

3

### Advantages of an Adjustable Rate Mortgage

Advantages of an ARM include a lower initial interest rate as compared to a fixed rate mortgage and lower initial monthly mortgage payment. The lower initial payment and interest rate also mean that borrowers can typically afford a larger mortgage with an ARM. Use our ARM Calculator to determine your lower initial payment with an ARM. Adjustable rate mortgages can also be a good option for borrowers in a high interest rate environment if you think mortgage rates will go down in the future. In that scenario you pay a lower interest rate initially and then you benefit further when your interest rate and payment decline if rates drop in the future. Predicting interest rates is highly challenging and exposes borrowers to significant risk.

4

### Disadvantages of an Adjustable Rate Mortgage

Disadvantages of an adjustable rate mortgage include the possibility that your mortgage rate and monthly payment spike in the future. With some ARMs your interest rate can increase by 50% or more at any adjustment period which would cause your mortgage payment to increase significantly. In general, ARMs are better suited for borrowers with a higher tolerance for risk or who are going to own their home for a shorter period of time (less than the length of the fixed rate period of the loan). Borrowers who value peace of mind and certainty should avoid the potential risks associated with an ARM. By presenting the worst case scenario, our calculator quantifies the disadvantages of an ARM.

5

### Payment Shock Can Hurt

No one likes to think about the worst possible outcome but borrowers should understand possible payment shock for an ARM. In many cases the interest rate for an ARM can increase up to 5% over the course of the loan. So if your initial interest rate is 3.5% and the life cap for your loan is 5.0%, then your maximum rate could be as high as 8.5%, which is more than double your starting rate. Although a lot of things have to go wrong, it is important to be aware of the potential for a significant and sudden increase in your interest rate and how your payment could spike with an adjustable rate mortgage. Understanding how an ARM works helps you prevent payment shock and better manage your finances.

%

Current Adjustable Rate Mortgage (ARM) Rates in Paris,Île-de-France as of December 3, 2021

*%*

Data provided by Brown Bag Marketing, Inc. Payments do not include amounts for taxes and insurance premiums. Read through our lender table disclaimer for more on rates and product details.

While we pride ourselves on the quality and breadth of the FREEandCLEAR mortgage calculators please note that they should be used for informational purposes only. Our calculators rely on assumptions by us and inputs and assumptions provided by you, which may be inaccurate. The outputs from our calculators are estimates only and should not be used as the sole basis for making any financial decisions. Always consult multiple financial professionals when determining the mortgage size and program that is appropriate for you.

### More FREEandCLEAR Mortgage Resources

#### Adjustable Rate Mortgage Rates

Review adjustable rate mortgage rates in your area based on initial interest rate, discount points, credit score and other inputs. Comparing ARM mortgage rates from multiple lenders enables you to find the mortgage with the best terms

*Sources*

"For an adjustable-rate mortgage (ARM), what are the index and margin, and how do they work?” *CFPB*. Consumer Financial Protection Bureau, November 15 2019. Web.

### About the calculator developer

Harry Jensen, Mortgage Expert

Harry is the co-founder of FREEandCLEAR. He is a mortgage expert with over 45 years of industry experience. Over his career, Harry has closed thousands of loans for satisfied borrowers and now offers his advice and insights on FREEandCLEAR. Harry is a licensed mortgage professional (NMLS #236752). More about Harry

## Adjustable-Rate Mortgages 101: Learn How They Work

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An “**adjustable-rate mortgage**” is a loan program with a variable interest rate that can change throughout the duration of the loan term.

It differs from a fixed-rate mortgage, as the rate may move both up or down depending on the direction of the index it is associated with.

All adjustable-rate mortgage programs come with a pre-set margin that does not change, and are tied to a major mortgage index such as the London Interbank Offered Rate (LIBOR), Cost of Funds Index (COFI), or Monthly Treasury Average (MTA).

Together, these two figures make up your fully-indexed mortgage rate once your loan becomes adjustable.

### Jump to adjustable-rate mortgage topics:

– How an ARM works

– ARM interest rate caps

– Types of ARMs available

– ARM interest rates

– How to calculate an ARM

– Why choose an ARM

Some banks and mortgage lenders will allow you to choose an index, while many rely on just one of the major indices for the majority of their loan products.

Prior to the housing crisis, adjustable-rate mortgages were synonymous with subprime mortgages, but they aren’t inherently bad, especially today’s hybrid ARMs.

Those older adjustable-rate mortgages were often option arms, which allowed for negative amortization. And many of the home buyers then had bad credit and/or put little to nothing down.

Today’s ARMs are much more sound, and mortgage lenders actually qualify borrowers properly. In fact, FHA loans are even offered with adjustable rates!

So they’re certainly worth considering, especially if you can snag a much lower mortgage payment.

### How an Adjustable-Rate Mortgage Works

Initial rate: 2.75% (won’t change during the initial fixed period of the loan)

Margin: 2.25 (won’t change ever)

Index: 1.25 (can go up and down)

Caps: 6/2/6 (regulates how much interest rate can go up/down)

Typically, an adjustable-rate mortgage will offer an initial rate, or teaser rate, for a certain period of time, whether it’s the first year, three years, five years, or longer.

After that initial period ends, the ARM will adjust to its fully-indexed rate, which is calculated by adding the margin to the index.

To figure out what your fully-indexed interest rate will be each month with an adjustable-rate mortgage, simply add the margin to the associated index.

You’ll be able to look up the current index price on the web or in the newspaper, and the margin you agreed to, which is usually found within your loan documents.

You also have to factor in payment caps to see when and how often your adjustable-rate mortgage actually adjusts.

Based on the two figures above, your fully-indexed mortgage rate would be **3.5%**. In the illustration above, you’ll see a typical 5/1 ARM, which is fixed for the first five years before becoming annually adjustable.

During the initial period, which is year one through year five, the rate holds steady at 2.75%. In year six, the start rate (which had been fixed) disappears and the rate becomes the sum of the margin and index.

In year seven, we pretend the index increased by another .50%, raising your mortgage rate to 4%. In year eight, a big jump in the index increases your rate another two percentage points to 6%.

This is where ARMs can get scary in a hurry, and why most homeowners prefer fixed rates instead.

Of course, this is just one scenario – the rate could also go down or stay the same, and even remain lower than comparable fixed-rate mortgages.

So it certainly goes both ways, it’s just that you’re taking a risk with an ARM as opposed to a fixed-rate product that never changes. That’s why you get a mortgage rate discount initially.

It is equally important to note both the index and margin when selecting a mortgage program from your bank or mortgage broker.

Many consumers overlook the margin, or simply don’t even realize it’s an active component of the adjustable-rate mortgage.

But as you can see, it plays a major role in the pricing of an ARM. Margins can vary by over 1% from lender to lender, so it can certainly affect you mortgage payment in a major way.

If you want a lower interest rate, inquire about the margin and try to find a bank offering a lower one.

### Adjustable-Rate Mortgage Interest Rate Caps (ARM Caps)

- ARMs feature caps to limit interest rate movement throughout the life of the loan
- This way borrowers won’t face payment shock if their ARMs adjust higher
- There are initial, periodic, and lifetime caps on ARMs
- While caps are intended to keep payments from spiraling out of control, they still allow for big payment swings

The good news is adjustable-rate mortgages carry adjustment caps, which limit the amount of rate change that can occur in certain time periods. There are three types of caps to take note of:

**Initial:** How much the rate can change at the time of first adjustment. In the examples above, it would be the initial adjustment after the first 5 years of the loan.

**Periodic:** The amount of rate change during each period, which in the case of a 5/6 ARM is every six months, or just once annually for a 5/1 ARM.

**Lifetime:** Total rate change during the life of loan. So throughout the full 30 years, it can’t exceed this amount, or drop below this amount.

Typically, you might see caps structured like 6/2/6. This means the rate can change a full 6% once it first becomes adjustable, 2% periodically (with each subsequent rate change), and 6% total throughout the life of the loan.

So if the start rate were 2.75%, it could jump to 8.75% upon first adjustment, but it wouldn’t be able to move any higher because that’s also the lifetime cap.

Or it could go from 2.75% to 4.75%, then up to 6.75% at the first periodic adjustment.

And remember, the caps allow the interest rate to go both up and down. So if the market is improving, your adjustable-rate mortgage can go down!

But again, it would be limited by the caps, so your rate will never swing higher or lower more than the caps allow.

Additionally, many lenders put in interest rate floors that often coincide with the initial rate, meaning your rate will never go below its start rate.

### Hybrid Adjustable-Rate Mortgages

- Many of today’s ARMs are actually both fixed and adjustable
- They feature a period of time where the interest rate doesn’t change
- Which can range from as little as six months to as long as 10 years
- Followed by an adjustable-rate period for the remainder of the loan term

Nowadays, most adjustable-rate home loans are hybrids. This means they carry an initial fixed period followed by an adjustable period.

They are also usually based on a 30-year amortization, meaning they last 30 years like fixed mortgages and are paid off similarly.

For example, you may see mortgage programs advertised like a 5/25 ARM or 3/27 ARM, just to name a couple.

A 5/25 ARM means it is a 30-year mortgage, with the first five years fixed, and the remaining 25 years adjustable.

Same goes for the 3/27, except only the first three years are fixed, and the remaining 27 years are adjustable.

You may also see programs such as a 5/6 ARM, which means the interest rate is fixed for the first five years, variable for the remaining 25 years, and will adjust every six months.

If you see a 5/1 ARM, it is exactly the same as the 5/6 ARM, except it changes only once a year after the five-year fixed period.

### Types of Adjustable-Rate Mortgages

- There are a dozen or more ARM choices available to homeowners today
- But not all banks and lenders may offer each type of ARM
- The 5/1 and 7/1 tend to be the most common these days, along with the 3/1 and 10/1
- You may find many additional choices if you take the time to shop around

There are many different types of adjustable-rate mortgages, ranging from one-month ARMs to 10-year ARMs. Obviously this represents quite a range of risk, so be careful when comparing different loan products.

**1-month ARM:** First adjustment after one month, then adjusts monthly**6-month ARM:** First adjustment after six months, then adjusts every six months**1-year ARM:** First adjustment after one year, then adjusts annually**2/2 ARM:** First adjustment after two years, then adjusts every two years**3/1 ARM:** First adjustment after three years, then adjusts annually**5/1 ARM:** First adjustment after five years, then adjusts annually**3/3 ARM:** First adjustment after three years, then adjusts every three years**3/5 ARM:** First adjustment after three years, then adjusts every five years**5/5 ARM:** First adjustment after five years, then adjusts every five years**5/6 ARM:** First adjustment after five years, then adjusts every six months**7/1 ARM:** First adjustment after seven years, then adjusts annually**10/1 ARM:** First adjustment after 10 years, then adjusts annually**15/15 ARM:** First and only adjustment after 15 years

As you can see, an ARM can give you as long as 10 years of fixed-rate payments, or as little as one month. Then you’re looking at adjustable rates from there on out.

Note that there are other types of ARMs out there, and they may be advertised differently.

For example, you might see a 2/28 ARM, or a 3/27 ARM, which are fixed for two and three years, respectively, before becoming adjustable. These might adjust every six months as opposed to annually.

### ARM Interest Rates

- The main draw of an ARM is the lower interest rate compared to what’s available on a fixed-rate mortgage
- The discount will depend on both the type of ARM and how competitive the lender is who is offering the product
- Timing can also come into play since spreads between ARMs and FRMs may widen or contract based on market conditions
- Take the time to shop around because ARM rates can vary considerably from one lender to the next

Pretty much the only reason homeowners take out ARMs is for the initial interest rate discount.

Yes, they are priced lower than fixed-rate mortgages, all else being equal, so homeowners can save some money and pay off their home loans a bit faster if the associated rate is lower.

While it certainly depends on the ARM in question, you should see a substantial discount on ARM mortgage rates versus fixed rates.

For example, a 30-year fixed might be priced at 4.625% on a given day, while a comparable 5/1 ARM is priced at 3.5%.

This spread will depend on the lender in question, as some may be more or less competitive on certain types of loan products. And spreads can change over time based on wider economic issues.

As a rule of thumb, the longer the initial fixed-rate period on the ARM, the lower the interest rate discount.

So if we’re talking about a 7/1 ARM, it might be priced at 3.75%, and a 10/1 ARM might be priced at 4%, relative to the rates discussed above.

Conversely, a 3/1 ARM might be priced closer to 3.25%, and a one-year ARM could be priced in the high 2% range or lower.

Of course, that means there’s a lot more risk of a mortgage rate adjustment in the very near future, so such products are really only good for a homeowner who needs short-term financing.

### How to Calculate an ARM Loan

- To calculate an ARM once it goes adjustable
- Simply combine the preset margin and the current index price
- Then multiply it by the outstanding loan amount
- Be sure to use the remaining loan term in months to determine the correct payment

Now that you’ve seen the many ARM loan options available, you might be wondering how to calculate an ARM adjustment.

After all, there’s a chance you might face a rate adjustment if you hold onto your mortgage beyond the fixed period.

Fortunately, it’s not too difficult to calculate, you just need a few key pieces of information.

This includes the fully indexed rate (index+margin), the outstanding loan balance, and the remaining loan term.

For example, if you took out a 5/1 ARM with a rate of 2.5% and a loan amount of $200,000, the monthly payment would be $790.24 for the first 60 months.

After 60 months, the principal balance (remaining mortgage amount) would be $176,150.87.

Now let’s assume your margin is 2.25 and the index is 1.50. Together, that’s a new rate of 3.75%

We then have to apply that new rate of 3.75% to the remaining balance of $176,150.87 over the remaining term, which would be 300 months (25 years).

That results in a monthly payment of $905.65, at least for the 12 monthly payments during year six.

The loan will then re-amortize again at the start of year seven, and the monthly payment will be generated using the new outstanding balance and interest rate at that time. And so on down the line…

It’s good to know the math so you can compare your notes to your loan servicer’s to ensure everything is as it should be.

### Why Choose an Adjustable-Rate Mortgage?

- The number one reason is to obtain a lower interest rate
- Which can save you money each month via less interest
- And decrease your monthly payments (more affordable)
- But it’s not without risk if interest rates rise significantly

You might be wondering why anyone would get an adjustable-rate mortgage. Well, the main advantage of an ARM is the lower mortgage rate relative to a fixed-rate home loan.

This spread can differ over time and might be wider if fixed rates are high, making ARM rates more attractive to homeowners.

There aren’t really many pros and cons to adjustable-rate mortgages outside the interest rate offered.

Most homeowners get into adjustable-rate mortgages for the lower initial payment, and then usually refinance the loan when the fixed period ends.

At that time, the interest rate becomes variable, or adjustable, and the homeowner would likely refinance into another ARM or a fixed mortgage, pay off the mortgage entirely, or sell the home outright.

They can also just stick with the ARM if the rate and payment are favorable after the initial fixed-rate period ends.

Some homeowners may also choose an adjustable-rate mortgage if the home is simply a short-term investment, or if they don’t plan on owning the home for more than say five years.

However, note that home buyers can’t qualify for a larger mortgage amount due to the lower rate on the ARM because lenders use a fully-indexed or even higher rate for qualification purposes.

For the record, a home equity line of credit (HELOC) is also considered an adjustable-rate mortgage because it’s tied to prime, and that can change whenever the federal funds rate changes.

Keep in mind that all adjustable-rate mortgages carry risk as the monthly payments can change, sometimes sharply if the timing isn’t right.

At the same time, ARM interest rates can increase or decrease once adjustable, so it won’t always necessarily be bad news.

And the savings realized during the fixed-rate period can eclipse any subsequent payment increases, at least for a while.

In summary, make an interest rate plan before you purchase real estate.

Decide what you want to do with the home over the next five years, and from there, you’ll be able to decide if an adjustable-rate mortgage is right for you.

Read more:Fixed-rate mortgage vs. adjustable.

## What Is An Adjustable-Rate Mortgage?

### How Does An Adjustable-Rate Mortgage Work?

As discussed above, an adjustable-rate mortgage is a home loan with an interest rate that adjusts over time based on market conditions. With a 30-year term, an ARM’s initial rate is fixed for a specified number of years at the beginning of the loan term and then adjusts for the remainder of the term.

Before we can discuss ARM loans, there are a few terms to understand.

### Adjustable-Rate Mortgage (ARM) Terminology

**Variable Rate**

A variable interest rate, also known as an adjustable or floating rate, varies over time. This means that the interest rate is different throughout the lifespan of a loan. The fluctuation is due to variations in the index, which acts as the rate’s benchmark.

**Indexes For Adjustable-Rate Mortgages**

Indexes are economic indicators used to calculate interest rate adjustments for adjustable-rate mortgages. The ARM loan’s index rate can increase or decrease at any time.

As of this writing, the most-used indexes are:

**Secured Overnight Financing Rate (SOFR)****:**Formerly the broad Treasuries financing rate, this index is the successor to LIBOR. It measures the cost of borrowing cash on an overnight basis, but to keep it simple, just know it’s a major factor in determining your variable rate at any given time.**Constant maturity****:**The 1-year constant maturity Treasury index is the most widely used in determining adjustments to the adjustable-rate mortgage interest rate. The value is derived from risk-free securities called Treasuries.**11th District Cost of Funds Index (COFI)****:**An index that reflects the average interest rate that the 11th Federal Home Loan Bank District pays for checking and savings accounts.

**Adjustable-Rate Mortgage Margin**

Margin is a percentage point predetermined by your lender that remains the same throughout the life of the loan. It’s used to determine the interest rate for loans. Once the initial fixed-rate term ends on an adjustable-rate mortgage, the interest rate typically adjusts annually, and this new rate is determined by adding the index to the margin.

Although this may cause the interest rate to increase, there are caps on how much it can increase.

**Adjustable Interest Rate Caps**

**Initial cap:**The maximum amount that the interest rate can adjust the first time it’s changed after the fixed period.**Periodic cap:**This puts a limit on the interest rate increase from one adjustment period to the next. The initial cap and the periodic cap may be the same or different.**Lifetime cap or ceiling:**This puts a limit on the interest rate increase or decrease over the life of the loan, and all adjustable-rate mortgages have a lifetime cap. Although these limits are put in place for rate increases, rates can decrease, too. However, since the margin stays the same throughout the life of the loan and is added to the index to get the interest rate, the rate will never fall below the margin.

**Adjustable-Rate Mortgage Cap Structure**

Cap structure is a numerical representation of each cap for the loan. This is presented in a series of three numbers that represent the three caps: initial cap, periodic cap and lifetime cap.

For example, a common rate cap is 2/1/5, which breaks down like this:

**Initial cap:**Your initial interest rate can only change by up to 2% the first time it adjusts.**Periodic cap:**Each change after that is limited to 1% every 6 months.**Lifetime cap:**Throughout the rest of the loan term, the most the interest rate can increase or decrease is 5% from the fixed rate. So, if your original rate was 3.5%, your interest rate can only go up to 8.5% during the life of your loan.

## What is the formula for the monthly payment on an adjustable rate mortgage?

Normally in a variable rate mortgage the payment would vary with the rate. However here is a formula for a fixed payment, (where, as the OP says, the rate adjustment is known in advance):

where

Here is how the formula is derived.

First, taking a simplified problem to show the workings more clearly.

Let's say a £100,000 loan repaid by 5 annual payments. The first 2 years at 3% and the following 3 years at 4%.

The loan amount is equal to the sum of the present value of the payments. These are the present values of the payments for each period, discounted by the interest rate(s):-

And

This can be expressed as a summation

and converted to a formula by induction:

Rearranging to give a formula for the payment:

*Amortization table for the above result showing figures and formulas*

Returning to the OP's example for, say, a loan of one million, with the effective rate of interest at 3% for the first 5 years and 4% for the following 20 years.

The payment

**Note for the use of nominal rates**

For nominal interest rates of 3% and 4% compounded monthly:

The payment

## Adjustable rate mortgage calculator

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Use our free ARM mortgage calculator to estimate how much your monthly mortgage payments will be with an adjustable interest rate mortgage.

**To calculate your estimated monthly payments on an adjustable-rate mortgage, enter the home cost in our adjustable-rate mortgage calculator.**

Options for a loan with a down payment of (20%)

As of . Note: This calculator assumes a 20% down payment for adjustable-rate loans. After your introductory rate term expires, your payment and rate may increase.

The rates displayed are only applicable in certain ZIP codes. For loan amounts above $484,350, try a jumbo loan.

The amount you have entered is not recommended/available for an ARM loan. Try a jumbo loan.

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Options for a loan with a down payment of (20%)

As of . Note: This calculator assumes a 20% down payment for conforming fixed-rate loans.

The rates displayed are only applicable in certain ZIP codes. For loan amounts above $484,350, try a jumbo loan.

The amount you have entered is not recommended/available for a conventional fixed-rate home loan. Try a jumbo loan.

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Options for a loan with a down payment of (3.5%)

As of . Note: This calculator assumes a 3.5% down payment for conforming FHA mortgages.

The rates displayed are only applicable in certain ZIP codes. For loan amounts above $484,350, try a jumbo loan.

The amount you have entered is not recommended/available for a FHA loan. Try a jumbo loan.

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The minimum home value amount for this calculator is $43,750. For lower home values, please contact one of our home mortgage loan originators today.

**Estimated monthly payment and APR example:** A $225,000 loan amount with a 30-year term at an interest rate of 4.5% with a down-payment of 20% would result in an initial estimated monthly payment of $1,140.05 with an Annual Percentage Rate (APR) of 4.574%.^{1}

### More about the adjustable-rate mortgage calculator

### What are the adjustable mortgage rates today?

See current adjustable-rate mortgages for a variety of terms, and learn more about rate assumptions and annual percentage rates (APRs).

See today's adjustable mortgage rates

### Use this ARM mortgage calculator to get an estimate

An adjustable-rate mortgage (ARM) is a short term mortgage option that offers a lower initial interest rate and monthly payment. After your introductory rate term expires, your estimated payment and rate may increase.

This fixed-rate mortgage calculator provides customized information based on the information you provide, but it assumes a few things about you - for example, you have what is considered very good credit (a FICO credit score of 740+) and you're buying a single-family home as your primary residence. This fixed-rate mortgage calculator also makes some assumptions about typical down payment amounts, settlement costs, lender's fees, mortgage insurance, and other costs.

### Contact a mortgage loan officer today to get a more accurate mortgage rate quote

Let us help answer all of your home finance questions and help you find the mortgage that's right for you – with monthly payments you can afford. You can also see if you prequalify online, so you'll have a better idea of how much you could afford.

### Check out today’s mortgage rates.

Interest rates vary depending on the type of mortgage you choose. See the differences and how they can impact your monthly payment.

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An experienced mortgage loan officer is just a phone call or email away, with answers for just about any home-buying question.

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## Is an adjustable-rate mortgage right for you?

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So you’ve figured out how much home you can afford and now you’re wondering which kind of mortgage you should get? You are probably asking yourself Should I get a fixed- or adjustable-rate mortgage? We can help.

The big divide in the mortgage world is between the fixed-rate mortgage and the adjustable-rate mortgage (ARM). Why two kinds of mortgages? Each appeals to a set of customers with different needs. Read on to find out which one makes sense for you.

### Old Faithful: The Fixed-Rate Mortgage

A fixed-rate mortgage is what most people think of when they imagine how to finance a home purchase. When you get a fixed-rate mortgage, you’ll commit to a single interest rate for the life of the loan. That rate depends on market interest rates, on your credit score and on your down payment.

If interest rates are high when you get your mortgage, your monthly payments will be high too because you’re locked in to the fixed rate. And if interest rates later go down you’ll have to refinance your mortgage in order to take advantage of the lower rates. To refinance, you’ll have to go through the hassle of putting together your paperwork, applying for a mortgage and paying for closing costs all over again.

The big draw of the fixed-rate mortgage, though, is that it gives the homebuyer some certainty in an uncertain world. Lots of things can happen over the life of your mortgage: job loss, uninsured illness, tax increases, etc. But with a fixed-rate mortgage, you can be sure that a hike in the interest you pay each month won’t be one of those financial snags.

With a fixed-rate mortgage, the lender bears the risk that interest rates will go up and they’ll miss out on the chance to charge you more each month. If rates go up, there’s no way they can increase your payments and you can rest easy. In other words, the fixed-rate mortgage is the dependable option.

### Get a fixed-rate mortgage if…

**You couldn’t afford a rise in your monthly payments.**We would advise against stretching your budget to afford a house and we recommend homebuyers leave themselves an emergency fund of at least three months, just in case things get hairy.

If a rise in interest rates would leave you unable to make your mortgage payments, the fixed-rate mortgage is the one for you. Those without a lot of financial cushion, or people who simply want to put extra money toward padding their emergency fund or contributing to retirement plans, should probably stay away from an adjustable-rate mortgage in favor of the predictability of the fixed-rate loan.

**You want to stay in the house for a long time.**Most Americans don’t stay in their homes for more than 10 years. But if you’ve found that perfect place and you want to stay there for the long haul, a 30-year fixed-rate mortgage makes sense. Yes, you’ll pay a decent chunk of change in interest over the life of the loan, but you’ll also be protected from rises in interest rates during that long period of time.

The reason rates are higher for 30-year fixed-rate loans than they are for shorter-term loans and ARMs is that banks need some sort of insurance that they won’t regret lending to you if rates go up during the life of the loan. In other words, banks are giving up their flexibility to raise your rates when they give you a fixed-rate mortgage. You make this up to them by paying higher rates. If you commit to paying more each month for a fixed-rate mortgage and then leave the home before you’ve built much equity, you’ve essentially overpaid for your mortgage.

**You don’t like risk.**The recent financial crisis left a lot of people feeling pretty spooked by debt. It’s important to be aware of your comfort with different levels of risk before you take on a home mortgage, which for many Americans is the biggest piece of debt they will ever have.

If knowing that your mortgage interest rates could increase would keep you up at night and give you heart palpitations, it’s probably best to stick with a fixed-rate mortgage. Mortgage decisions aren’t just about dollars and cents—they’re also about making sure you feel good about the money you’re spending and the home you’re getting for it.

### The Adjustable-Rate Mortgage

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Not everyone needs the dependability of the fixed-rate mortgage. For those borrowers, there’s the adjustable-rate mortgage. It is also known as the ARM.

With an ARM, you carry the risk that interest rates will rise — but you also stand to gain more easily if rates go down. Plus you get lower introductory rates. Those lower introductory rates are usually what draw people to an ARM, but they don’t last forever so it’s important to look beyond them and understand what could happen to your rates during the life of the loan.

What is an adjustable-rate mortgage? A simple adjustable-rate mortgage definition is: a mortgage whose interest rate can change over time. Here’s how it works: It starts off very similar to a fixed-rate mortgage. With an ARM you commit to a low interest rate for a given term, usually 3, 5, 7 or 10 years depending on the loan you choose. Once the fixed-rate term ends, your interest rate becomes adjustable for the rest of the life of the loan.

That means your interest rate can go up or down, depending on changes in the interest rate that acts as the index for the mortgage rate, plus a margin, usually between 2.25% and 2.75%. In other words, your interest rate and monthly payments could go up, but if they do it’s probably because changes in the economy are raising the index rate, not because your lender is trying to be a jerk.

The index rate that drives changes in mortgage rates is usually the LIBOR rate. LIBOR stands for “London Interbank Offered Rate.” It’s an interest rate derived from the rates that big banks charge each other for loans in the London market. You don’t need to worry too much about what it is, but you do need to be prepared for what it could do to your monthly payments.

How do you know what to expect from an ARM? Lenders list adjustable-rate mortgages in a way that tells you the length of the introductory rate and how often the rates will readjust. A five-year adjustable-rate mortgage doesn’t mean you pay off the house in five years. Instead, it refers to the length of the introductory term. For example, a 5/1 (“5 by 1”) ARM will have an initial term of five years, and at the end of those five years your interest rate will adjust once per year. Most ARMs adjust yearly, on the anniversary of the mortgage.

Now that you know the formula you’ll be able to decipher the most common forms of adjustable mortgages - the 3/1 ARM, 3/3 ARM, 5/1 ARM, 5/5 ARM, 10/1 ARM and the 7/1 ARM. Note that a 3/3 ARM adjusts every three years and a 5/5 ARM adjusts every five years. Some loans defy this formula, as in the case of the 5/25 balloon loan. With a 5/25 mortgage, your interest rate is fixed for the first five years. It then jumps to a higher rate, which is yours for the remaining 25 years of the 30-year mortgage. Always read the fine print.

Your lender will also tell you the maximum percentage rate-change allowable per adjustment. This is called the “adjustment cap.” It’s designed to prevent the kind of payment shock that would occur if a borrower got slammed with a huge rate increase in a single year. The adjustment cap for ARMs with a five-year fixed term is usually 2%, but could go up to 4% for loans with longer fixed terms. It’s important to check the adjustable-rate mortgage caps for any home loans you’re considering.

A good ARM should also come with a rate cap on the total number of points by which your interest rate could go up or down over the life of your loan. For example if your total rate cap is 6%, your rate will stay at the introductory rate of 2.75% for five years and then could go up 2% per year from there, but it would never go above 8.75%.

### Get an adjustable-rate mortgage if…

**You know you won’t be in the home for long.**Adjustable-rate mortgages start with a fixed-rate term, usually up to five years. If you’re confident you will want to sell the home during that first loan term, you stand to gain from the lower initial interest rates of an ARM.

Many people who choose ARMs do so for their “starter” homes and then sell and move on before getting hit with an interest rate increase. Maybe you’re planning to move to a different city in a few years, or you know you want to start a family and you’ll need to find a bigger place.

If you don’t picture yourself growing old in the house you’re buying — or specifically staying for more than the fixed-rate term of the loan — you could get an ARM and reap the benefits of the low introductory rates. Just remember that there’s no guarantee you’ll be able to sell the home when you want to.

**You want to avoid the hassle of a refinance.**If you get an ARM and interest rates drop, you can sit back and relax while your monthly mortgage payments drop as well. Meanwhile, your neighbor with the fixed-rate loan will need to refinance to take advantage of lower interest rates.

Lots of people only talk about the worst-case scenario of the ARM, where interest rates go up to the maximum rate cap. But there’s also a best-case scenario: a buyer's monthly payments go down during the variable term of the loan because market interest rates are falling. Of course, interest rates have been so low lately that this scenario isn’t terribly likely to occur in the near future.

**You’ve budgeted for a possible interest-rate hike.**If you’re certain that you could afford to pay more each month in the event of a rise in interest rates, you’re a good candidate for an ARM. Remember, there is a maximum rate hike attached to every ARM, so it’s not like you have to budget for 50% interest rates. An adjustable-rate mortgage calculator can help you figure out your maximum monthly payments.

### Watch out for… the option ARM

The lending market has gotten more consumer-friendly since the financial crisis, but there are still some pitfalls out there for unwary borrowers. One of them is the option ARM. It doesn’t sound too bad, right? Who doesn’t like options?

Well, the problem with the option ARM is that it makes it harder for you pay off your mortgage. It’s the kind of mortgage that a lot of borrowers signed up for before the financial crisis.

With an option ARM, you’ll have a choice between making a minimum payment, an interest-only payment and a maximum payment each month. The minimum payment is less than a full interest payment, the interest-only payment just takes care of that month’s interest and the maximum payment acts like a normal loan payment, where part of the payment eats away at the interest and part of the payment builds equity by cutting into the principal. If you make the minimum payment, the amount of interest you don’t pay off gets added to the total that you owe and your debt snowballs.

Option ARMs can lead to what’s called “negative amortization.” Amortization is when the payments you make go to more and more of the principal and the loan eventually gets paid off. Negative amortization is when your payments just go to interest — and not enough interest at that — and you find yourself owing more and more, not less and less, over time.

### Adjustable-Rate Mortgage vs. Fixed-Rate Mortgage: The Final Showdown

If you’ve made it this far, you’re a savvy borrower who knows the difference between a fixed-rate mortgage and an ARM. You understand the fixed-rate and adjustable-rate mortgage pros and cons. It’s time to think about how long you want to stay in your new home, how risk-tolerant you are and how you would handle a rate hike. You’ll also want to take a look at the fixed- and adjustable-rate mortgage rates that are available to you.