An Adjustable-Rate Mortgage, or ARM, is a type of mortgage where rates may go up or down based upon market interest rates. Most adjustable-rate mortgages have a fixed period in which interest rates are set at a very low rate that does not change. Once this period has passed, the interest rates will be adjusted in the context of the market rates. Adjustments to rates are done at predetermined periods of time.

Sometimes ARMs are referred to by names like ’5/1′ or ’3/1.’ These numbers represent the set periods for the loan. For example, in a 5/1 loan, the 5 represents the five-year period where you will pay the initial set interest rate, and the 1 represents one-year intervals at which the interest rate will be adjusted depending on the market interest rates.

In order to give slightly more stability to an adjustable-rate mortgage, different types of caps may be applied to the plan. It is important to know what each cap is for and how it will affect your payment.

• Periodic Rate Cap - Limits how much the rate can change at any one time. It will prevent the rate from increasing more than a certain number of percentage points any given year.

 

• Lifetime Cap - Limits how much the interest rate can rise over the lifetime of the loan in

 

• Payment Cap - limits the amount of the monthly payment over the lifetime of the loan in dollars, rather than percentage points. The downside to this type of cap is that it does not limit changes in the interest rate and may result in negative amortization.

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