Adjustable-Rate Mortgage (ARM)

An ARM typically starts with a fixed rate for a set number of years, after which the rate resets periodically, commonly every six months or once a year, based on a benchmark rate plus a fixed margin. ARMs are often described by two numbers, such as a 5/6 ARM, which has a fixed rate for five years and then adjusts every six months, or a 5/1 ARM, which adjusts every year.

Most US ARMs include caps that limit how much the rate can rise at each adjustment and over the life of the loan, protecting borrowers from extreme increases.

For example, a borrower might take a 5/1 ARM at 5%. After five years, if the benchmark has risen, the rate could reset to 7%, increasing monthly payments significantly. If rates have fallen, payments could go down.

ARMs often start with a lower rate than fixed-rate mortgages, which can make them attractive to buyers who plan to move or refinance before the rate adjusts. The risk is that rates may rise more than expected. Similar products elsewhere are called variable-rate mortgages, and in the United Kingdom include tracker mortgages, which follow the central bank rate, and standard variable rate mortgages, set by the lender.