Adjustable-Rate Mortgage Loans (ARMs) from Bank of America (2024)

FAQs

What may be a concern if you have an adjustable-rate mortgage ARM? ›

Often, there's a cap on the rate increase, but it can still sting and eat up more funds that you could use for other financial goals. Need a plan for resets: If you intend to keep the mortgage past that first rate reset, you'll need to plan for how you'll afford higher monthly payments long-term.

For example, during the first five years in a 5/6m ARM your rate stays the same. After that, the rate may adjust every six months (the 6m in the 5/6m example) until the loan is paid off. This period between rate changes is called the adjustment period. Adjustment periods can vary.

While there are some risks involved, there are also many benefits when using ARMs, particularly for short-term home buyers who may move before the interest rate resets, those planning to refinance their mortgage down the road, and for buyers with a strong and consistently reliable cash flow.

The pros and cons of choosing an ARM mortgage

Monthly payments can decrease if market rates fall—as some predict in 2024, as shown above—or they may increase if rates rise after the initial fixed period. ARMs are complex, requiring careful planning for rate adjustments and potential payment increases.

Cons of ARMs:

While the initial rate may be lower than a fixed-rate mortgage, it can also rise dramatically in the future, making monthly payments more expensive. This unpredictability can lead to stress and financial strain on homeowners.

An adjustable-rate mortgage (ARM) comes with an interest rate that changes over time. Typically, you begin an ARM paying a lower, fixed rate for a set period of time. After that fixed-rate time expires, your rate adjusts to the market rate, either higher or lower.

Some ARMs may require you to pay fees or penalties if you refinance or pay off the ARM early, usually during the initial period (the first three to five years) of the loan. Prepayment penalties can total several thousand dollars. It's important to know about these potential extra fees before you take out an ARM.

The main difference between ARMs and fixed-rate mortgages is that ARMs have an interest rate and monthly payments that can go up and down over time, whereas fixed-rate mortgages have an interest rate that never changes, so the monthly principal-and-interest payments stay the same.

Refinancing an ARM mortgage can be a savvy move if you want more stability or current fixed interest rates are lower than your ARM's future rates. By refinancing, you can lock in a more predictable rate, potentially saving money over the life of the loan.

When you plan to sell before the fixed-rate period ends. An ARM can be an excellent option if you don't plan to own the property for the long term. Real estate investors, people who fix and flip houses, and primary homeowners who sell every few years have all discovered ARMs as a smart financial tool.

Can you get out of an ARM loan? ›

Absolutely. But the ARM refinance only makes sense if it helps you toward your specific financial goals. Compare rates and crunch the numbers to see if refinancing your adjustable-rate mortgage is right for you.

Down payments for ARMs are usually the same as fixed-rate loans, but loan types allow for lower down payments (FHA or VA loans). In most cases, expect a minimum of 5% down, though 20% is preferred because private mortgage insurance (PMI) is often required on loans with less than a 20% down payment.

The biggest risk of an ARM is that, after the initial fixed-rate period expires, your rate could increase, pushing up your monthly mortgage payment.

5/1 ARM pros and cons

You could opt for interest-only payments to save extra money each month. Your payment is likely to decrease if an economic recession hits. Your interest rate is likely to rise after the first five years. Your payments might become unaffordable after the rate adjusts.

Example of a 7/1 ARM

After seven years, the rate (and your payment) will change each year until you pay off the loan. When the first adjustment period comes, if rates have gone up, the loan rate could increase up to 8 percent.

ARMs are risky loan products because they can become unaffordable as payment amounts increase with interest rate changes.

The biggest risk of an ARM is that, after the initial fixed-rate period expires, your rate could increase, pushing up your monthly mortgage payment.

With an ARM, your interest rate may change based on market conditions, such as fluctuations in inflation. Specifically, if inflation falls unexpectedly by 3%, it is likely that the interest rate on an adjustable rate mortgage would decrease.

Disadvantages of an Adjustable-Rate Mortgage

Unpredictable payments: With an ARM, your monthly payments may fluctuate depending on the market conditions at the time of adjustment. This can make budgeting difficult and can cause financial strain if the rate increases significantly.