Adjustable Rate Mortgages -Terminology
INDEX + MARGIN= INTEREST RATE - Both these added together give you the interest rate on the ARM. INDEX - Lenders use this to measure how much the interest rate will change at the time your loan resets. Typically many lenders use the 1-year treasury index or the 1 -year LIBOR ( London interbank Overnight Rate). Your ARM will be linked to one of these specific indexes. Make sure your mortgage broker discloses the particular index tied to your loan. MARGIN - This is how the broker will profit on the loan. It is basically a markup and a considered the brokers "cost of doing business". It should also be explained to the borrower as a % and remains constant during the life of the loan. ADJUSTMENT PERIOD - How often the rate resets. You may see an ARM described with figures such as 1-1, 3-1, and 5-1. The first figure in each set refers to the initial period of the loan, during which your interest rate will stay the same as it was on the day you signed your loan papers. The second number is the adjustment period or how often the interest rate will be 'reset'. For example, on a 3/1 the rate adjusts annualy after the 3rd year. That is every year until the loan is completely paid off, usually based on 30 years.
ARM - Simple Example
You've determined an ARM is the best or maybe the only home loan solution for you at this point in time! Home sale price :200,000Down payment: 3% ( $6000)
Amount of loan:$194,000 LENDER 1: Offers a margin of 2%, and a one-year index of 6%. Actual interest rate = 8% or $1,423.00 / monthly. LENDER 2 : Offers a margin of 4%, and a one-year index of 5%. Actual interest rate = 9% or $1,560.00 / monthly. Know the precise margin and index before commiting to any ARM - COMPARE between lenders - you will not hurt your credit score if you apply with many diferent lenders within a 45 day period.
ARM Summary
If you're exploring bad credit home loan options - ARM's are a good choice. The structure is set up to allow borrowers the opportunity to get their credit score together while still purchasing a home.More on adjustable rate mortgages
Adjustable Rate Mortgages - ExplainedAdjustable Rate Mortgages - Terminology
ARM - 3/1 and 5/1 Explained
Should I get an ARM?