Initial Interest Rate
The initial interest rate is the introductory rate applied to an adjustable-rate mortgage (ARM), generally lower than the market rate to make the loan more attractive. This rate is fixed for an initial period, typically ranging from one month to several years, before it adjusts periodically based on an index plus a margin.
Examples§
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Example 1: An adjustable-rate mortgage was originated at a 3% initial interest rate, even though mortgage interest rates were 4.5% at the time the loan was taken. It is likely that the interest rate will increase at the first adjustment date, even if the market interest rates remain stable.
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Example 2: A borrower secured a 5-year ARM with a 2.5% initial interest rate for the first five years. After five years, the interest rate will reset annually based on the chosen index rate (e.g., LIBOR or Treasury rate) plus a 2% margin.
Frequently Asked Questions (FAQs)§
What happens when the initial interest rate period expires?§
After the initial interest rate period expires, the interest rate adjusts at predetermined intervals based on the index specified in the mortgage terms plus a margin.
Are initial interest rates always lower than fixed mortgage rates?§
Not necessarily. They are often lower to attract borrowers, but this is not always the case. It depends on the lender’s terms and current market conditions.
How frequently do the interest rates adjust after the initial period?§
It varies by the mortgage’s terms; common intervals are annually or every six months. This should be outlined in the loan agreement.
Can the interest rate decrease after the initial period?§
Yes, if the underlying index used for the ARM decreases, the interest rate could also decrease. However, many ARMs come with rate caps that limit how much the rate can change.
What is a teaser rate?§
A teaser rate is an attractively low initial interest rate offered by lenders on ARMs to attract borrowers. This rate is usually short term and will adjust upwards after the introductory period ends.
Related Terms with Definitions§
- Adjustable-Rate Mortgage (ARM): A mortgage with an interest rate that may change periodically based on an index.
- Fully Indexed Rate: The interest rate on an ARM calculated by adding the index rate to the mortgage’s margin.
- Caps: Limits placed on the adjustments of interest rates in an ARM during any given period and over the life of the loan.
- Teaser Rate: An unusually low initial interest rate intended to attract borrowers, typically increasing after a short initial period.
Online Resources§
- Investopedia: Adjustable-Rate Mortgages: How They Work and Whether They’re Right for You
- The Balance: Understanding Adjustable Rate Mortgage
- Consumer Financial Protection Bureau: Adjustable Rate Mortgages
References§
- Investopedia. “Adjustable-Rate Mortgage (ARM).” Retrieved from https://www.investopedia.com/terms/a/arm.asp
- Consumer Financial Protection Bureau. “What is an adjustable-rate mortgage?” Retrieved from https://www.consumerfinance.gov/ask-cfpb/what-is-an-adjustable-rate-mortgage-arm-en-186/.
Suggested Books for Further Studies§
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“The Mortgage Encyclopedia: The Authoritative Guide to Mortgage Programs, Practices, Prices, and Pitfalls” by Jack Guttentag
- An all-encompassing reference book addressing various mortgage types and common practices, including adjustable-rate mortgages.
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“Armageddon: What You Need to Know about ARMs” by often published by lenders or financial agents
- Understanding the intricacies of Adjustable-Rate Mortgages.
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“The Intelligent Mortgage Consumer” by John B. Allen
- A consumer-guidebook providing broader tips on making well-informed mortgage decisions.
