An adjustable-rate mortgage (ARM) usually comes with a lower interest rate than a fixed-rate mortgage (FRM), at least in the beginning. There’s typically an initial fixed-rate period when the rates are very low and then it floats up, or sometimes down.
Over the last few years, interest rates have generally stayed ultra-low, but they’ve recently begun to rise. It’s possible that they’ll carry on upward, perhaps to a level where they’ll make homeowners with ARMs financially stressed.
Having said that, most ARMs allow only one rate hike annually, and have one or more of the three following caps on increases:
- Periodic adjustment caps: These limit the amount your rate may rise at any one time
- Payment caps: A limit that says your monthly payments can’t rise by more than X percent
- Lifetime caps: A limit on the amount by which your rate can rise over the entire lifetime of your loan
You can check your ARM loan agreement to see which, if any, caps apply to your mortgage. Then, you can understand your exposure by modeling different scenarios using the LendingTree mortgage calculators..
Still, if your budget is tight, even limited rises could cause you real headaches, making a fixed rate refinance an attractive option that can put a lock on your monthly payments for the life of the mortgage.