Adjustable-rate mortgages (ARMs), in plain words.
An adjustable-rate mortgage, or ARM, is a home loan whose rate stays fixed for a set number of years and then resets on a schedule. Each reset follows a published index plus a fixed margin, inside caps written into the loan. This page explains the names (5/1, 7/1, 10/1 and the newer 5/6, 7/6 and 10/6) and each part of an ARM. It quotes no rates.
Sam Batayneh is a mortgage loan originator (NMLS 332474) and VP of Mortgage Lending at OriginPoint (NMLS 1598647). Sam has originated mortgages since 2004 and lends in all of California. OriginPoint offers adjustable-rate mortgages, including on jumbo loans.
How does an adjustable-rate mortgage work?
The rate stays fixed for the first years of the loan. After that the lender resets it on a schedule, up or down, by adding a margin to a published index.
An ARM has two stages. In the first, the fixed period, the rate does not change and neither does the payment of principal and interest. In the second, the lender resets the rate at regular dates for the rest of the loan. A fixed-rate mortgage has only the first stage: one rate from the first payment to the last.
The first stage is what draws people to an ARM. Lenders often, though not always, set the starting rate of an ARM below the rate of a comparable fixed loan, and a buyer who sells, moves or refinances before the first reset never sees the rate change. The price of that is uncertainty. After the fixed period the monthly payment can rise, and nobody can say in advance by how much.
Every ARM is described by the same five parts: how long the rate stays fixed, how often it resets after that, the index it follows, the margin the lender adds, and the caps that limit each change. All five are written into the loan papers before closing, so the way the rate can move is settled from the start, even though the index itself is not.
The sections below take each part in turn, in words. This is general education. It is not advice about which loan to choose: that depends on your own plans and your own file.
What do 5/1, 7/1, 10/1 and 5/6, 7/6, 10/6 mean?
The first number is the years the rate stays fixed. The second is the time between resets after that: one year on the older names, six months on the newer ones.
5/1, 7/1 and 10/1 ARMs
A 5/1 ARM stays fixed for five years and then resets once a year. A 7/1 stays fixed for seven years and a 10/1 for ten, each with a reset once a year after that. Many of these loans followed an index called LIBOR, which has since been retired.
5/6, 7/6 and 10/6 ARMs
The first number still means years at a fixed rate: five, seven or ten. The second now counts months, so the rate resets every six months once the fixed period ends. These loans follow SOFR, the Secured Overnight Financing Rate, and are often called SOFR-indexed ARMs.
People still say “a 5/1” out of habit when they mean any ARM with five fixed years. The name on the loan papers is the one that counts, so ask which index a loan follows and how often it resets. A reset every six months means the rate can change twice as often as on the older loans, which is one reason the caps matter.
SOFR is published each business day by the Federal Reserve Bank of New York: the New York Fed’s SOFR page. An ARM uses an average of it, taken shortly before each reset, not a single day’s reading.
What are the fixed period, the index, the margin and the caps?
They are the five things that decide how an ARM’s rate can move: how long it stays fixed, how often it resets, what it follows, what the lender adds, and the limits on each change.
The fixed period
The years at the start when the rate does not change: commonly five, seven or ten. The payment of principal and interest stays the same all the way through it.
The adjustment period
The time between resets once the fixed period ends: six months on a 5/6, 7/6 or 10/6 ARM, one year on the older 5/1, 7/1 and 10/1.
The index
A published market rate that the lender does not control, such as SOFR. When the index moves, the ARM’s rate follows it at the next reset.
The margin
A fixed amount the lender adds to the index. It is set when the loan is made and never changes. Index plus margin gives the new rate at each reset, inside the caps.
The initial cap
The most the rate can change at the first reset, when the fixed period ends. The first reset is often allowed a larger change than the later ones.
The periodic cap
The most the rate can change at each reset after the first one.
The lifetime cap
The most the rate can ever rise above the starting rate, over the whole life of the loan. Some loans also set a floor that the rate cannot go under.
Where do you find an ARM’s index, margin and caps?
In the Loan Estimate you receive after applying, and in the loan’s own ARM disclosure. Both show them before you commit to anything.
Caps are often written as three numbers in a row, in the order above: the initial cap, the periodic cap and the lifetime cap. The Loan Estimate also has a table that shows when the rate can first change, how often after that, and the highest the rate and the payment can reach. Read that table before anything else: it turns the caps into the payment you would have to be ready for.
The Consumer Financial Protection Bureau explains ARMs in plain language as well: the CFPB’s guide to adjustable-rate mortgages.
Who often looks at an ARM?
People who expect to sell, move, pay the loan down or refinance before the fixed period ends. These are common reasons for asking about an ARM, not recommendations.
Executives who expect a move
Someone who expects a transfer or a new post within a few years often plans to sell before the fixed period ends. Mortgages for executives and finance professionals. Relocating to California with a new job.
Bonus and RSU earners
People paid partly in bonuses or vesting stock sometimes plan to pay the balance down in lumps, or to refinance, during the fixed period. Mortgages for tech professionals: RSU and stock income.
Shorter holding periods
A buyer who expects to keep the home, or the loan, for less time than the fixed period has less exposure to the resets that come after it.
Plans change. A move falls through, a sale takes longer, or a refinance is not available on the terms someone hoped for. Anyone who chooses an ARM should be ready for the payment after the first reset. General education only, not advice about which loan to choose.
What should you weigh before choosing an ARM?
Mainly the payment after the fixed period, and how sure you are of your own plans. Five things to go through with Sam.
- The payment can go up. After the fixed period, a higher index means a higher payment. Ask to see the payment at the caps, not only at the start.
- All three caps. Know the limit on the first reset, on each reset after it, and over the life of the loan.
- How long you expect to keep the loan. The closer that is to the fixed period, or past it, the more the resets matter.
- The fixed-rate alternative. Compare the two on the same day, with the same points and costs, over the time you expect to keep the loan.
- Interest-only ARMs. Some ARMs are also interest-only for a time. Then two things change later: the rate, and a payment that starts to include principal. Interest-only loans: how the interest-only period works.
Are there jumbo ARMs?
Yes. An ARM can be a conforming loan or a jumbo loan, and OriginPoint lists adjustable-rate options among its jumbo loans.
A jumbo ARM works the same way as any other ARM: a fixed period, then resets by index, margin and caps. What is different is the loan around it. A jumbo loan is above the county’s conforming limit, so the lender sets its own rules on income, savings and credit, and those rules apply whichever kind of rate you choose. Jumbo loans in California: the limits and what lenders look at.
ARMs come up more often on jumbo loans for a simple reason: on a larger balance, the difference between two payments is larger in dollars. That cuts both ways, because a reset on a larger balance moves the payment further too. Lenders also commonly test an ARM borrower’s income against a rate above the starting rate, so choosing an ARM does not by itself mean qualifying for a larger loan.
OriginPoint’s published materials also list interest-only options on some jumbo loans. Each has its own guidelines, and availability can change, so ask Sam what is offered now.
Program names are OriginPoint’s. Which one fits depends on your own file, and naming a program here is not a promise that a loan will be approved. OriginPoint publishes its own conditions and disclosures for each program, and those apply in full: ask Sam for them.
Plain answers about ARMs.
What is an adjustable-rate mortgage (ARM)?
What does 5/6 mean on an ARM?
What is SOFR?
Can the rate on an ARM go down?
Does OriginPoint offer adjustable-rate mortgages?
General education only. Each lender sets its own rules, and they change. Nothing here is a promise that a loan will be approved or of any terms. This is not tax, legal or investment advice: for those questions, ask your own CPA, attorney or business manager.
Fixed or adjustable?
Tell Sam how long you expect to keep the home. Sam will lay out both kinds of rate side by side, in plain words.