What is an adjustable-rate mortgage (ARM), and what are the risks?

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Adjustable-rate mortgages (ARMs) can allow you to land a lower interest rate in today's high-rate environment. However, ARMs aren't without risk, and they're only right for certain borrowers in certain situations. Find out how ARMs work and whether this type of home loan is right for you.

ARMs behave like two different mortgages rolled into one loan agreement. It begins with a fixed-rate term, usually between five and 10 years. During this period, your interest rate and payment will remain the same.

After that, it converts to a variable-rate loan with an interest rate that can change (up or down) every six months or annually. This means your monthly mortgage payment also changes.

To fully understand how ARMs work, you need to understand what their formulas mean. For example, let's examine the "5/1" ARM:

The first number is the number of years for the introductory fixed-rate term. In a 5/1 ARM, the "5" means the introductory period lasts five years. In other words, your intro rate is locked in for five years.

The second number is the period for each adjustment after the initial term. In this case, a "1" means the rate changes annually. If the second number were a "6," the rate would fluctuate every six months.

Not every mortgage lender will offer all iterations of ARMs. If there's a specific term or adjustment period you're looking for, you may need to shop around for it.

Though rates on ARMs can rise, there are typically limits to how high they can go. Usually, there are three maximums built into a variable-rate structure.

The amount the rate can move in subsequent adjustments

The maximum rate change over the entire mortgage

Knowing the caps a loan comes with allows you to calculate the absolute maximum rate and payment you could face down the line. This can help you decide if a particular loan offer is right for you.

Adjustable-rate mortgages use one of a number of broad-market interest rate indexes to determine a loan's variable rate . These indexes are regulated by financial authorities and serve as benchmark rates for many loan products.

To set a loan's rate, mortgage lenders choose an index and add a certain percentage of cushion, called a margin, on top of that. Different lenders add different margin amounts, so it pays to compare several companies' ARM mortgage rates as you would with any other loan product.

An adjustable-rate mortgage where the initial fixed-rate period lasts for five years and then the interest rate adjusts every year thereafter.

With this ARM, the introductory fixed interest rate lasts for five years, then adjusts every six months.

With a fixed-interest rate that lasts for seven years, the 7/1 ARM then resets its variable rate annually.

The introductory fixed rate lasts for seven years, after which the interest rate is subject to change every six months.

One of the longest-term ARMs on the market, the 10/1 maintains a fixed mortgage rate for 10 years. After that, the interest rate is variable, with possible adjustments every year.

An adjustable-rate mortgage with an interest rate that is set for a full 10 years, then is variable and subject to change every six months.

A payment-option ARM allows you to choose to pay various portions of the principal and interest for a specified time. The borrower can pay only the interest on the loan — or some combination of the mortgage principal and interest over a number of years. You'll owe less initially but face much higher monthly payments later.

With an interest-only ARM, you'll have a lower monthly payment, but you won't be reducing the debt you owe. A lender may offer the interest-only option for the initial period of an ARM. Once that period expires, your monthly payment may skyrocket because your payment will consist of both principal and interest.

Yahoo Finance Tip: Payment option and interest-only ARMs can result in negative amortization . That's when your monthly payment is insufficient to cover the interest due. The amount you owe will increase rather than decrease. It's probably best to avoid these ARM options.

A convertible ARM has a built-in option to convert an adjustable-rate mortgage to a fixed-rate loan , without additional closing costs. It's like having a refinance option automatically included in your loan.

One downside: The conversion opportunity is usually available after the introductory period when the ARM is set to begin intervals of rate adjustments. That limits your choice of when and at what interest rate you can refinance.

Pros and cons of an adjustable-rate mortgage

You may get a lower initial interest rate.

Your monthly payment will likely be lower at the start.

You may be able to convert or refinance your mortgage to a lower fixed rate later.

Interest rate increases during the adjustment period may make your payments increasingly less affordable.

Budgeting for a payment that can change every six months to a year can be challenging.

Interest rates may be higher when you're ready to refinance to a fixed-rate mortgage.

You may end up paying more in interest in the long run.

Getting approved for an ARM is much the same as qualifying for any other mortgage. Lenders will consider your credit score, income, debt, and payment history. Generally, you'll need a minimum FICO credit score of 620 (at least for a conventional ARM).

Down payment requirements are generally the same as fixed-rate mortgages. At least a 5% down payment is preferred by many lenders, though you may be able to put down as little as 3.5% with an FHA adjustable-rate mortgage .

You may be anxious to get any break you can from today's high mortgage rates. And while an ARM may offer that opportunity, it's still important to shop multiple providers and compare several mortgage loan options .

Be sure to ask each mortgage lender the following questions:

How long are my initial interest rate and payment guaranteed to stay the same?

Will I be making sufficient principal and interest payments to pay off the loan over the term?

How high can the interest rate on my ARM go?

How high would my payment (with principal and interest) be at the maximum interest rate? (Then ask yourself, can I afford that payment if it becomes a reality?)

Does the loan have a conversion option? (See "Convertible ARM" above.)

Does the ARM have a "teaser rate" built in? If so, what will the first adjustment payment be?

You should also consider the trajectory of mortgage rates when deciding whether to get an ARM. Forecasts from the Mortgage Bankers Association and Fannie Mae project that 30-year fixed mortgage rates will remain about the same through 2026. If you want a steady rate and payment, it may be worth holding out for those rates to fall into your price range.

Yahoo Finance tip: A "teaser rate" provides an even lower initial interest rate; however, it does increase the likelihood that your payment will rise, whether index interest rates do or not.

If you qualify, you can refinance an ARM into a fixed-rate mortgage later on. You might want to do this if your income changes and you need a more steady payment, rates are rising and you want to avoid even more increases to your payment in the future, or interest rates fall on fixed-rate products, as industry experts project.

Take note, though: Some lenders will charge a prepayment penalty if you refinance or pay off your loan during the first few years. You will also pay closing costs on the new loan.

The big difference between fixed-rate mortgages and ARMs is that one offers a consistent, steady rate and payment for your entire loan term, while the other has a rate and payment that can fluctuate.

ARMs also have lower rates than fixed-rate loans, at least at the beginning of the loan term. MBA data shows that the average rate on a 5/1 ARM was 5.82% the week ending Sept. 4, 2026. For 30-year fixed-rate mortgages, it was 6.85%.

Keep in mind that market rates change, so an ARM is typically only the best choice in two scenarios: You know you will own the house for only a short period of time (meaning you will sell the house before that initial interest rate expires), or you have sufficient income to cover higher monthly payments that accompany any future rate bumps.

A fixed-rate loan may be a better option if you intend to stay in a home for many years or you have a variable income that could make it difficult to cover a constantly changing payment.

You may be surprised to find that the published initial rates on ARMs aren't that much lower than advertised fixed-rate mortgage rates. That's why it's so important to shop multiple lenders — and get preapproved — to get a good idea of the interest rates you might earn.

Yahoo Finance Tip: Be sure to note the points that lenders are building into their loan offers to sweeten their advertised interest rates. If you ask loan providers to give you offers with zero mortgage discount points , you'll be comparing offers on an equal basis.

An ARM isn't necessarily a bad idea right now. On one hand, it would probably offer you a lower introductory interest rate than you'd currently find on 30-year fixed-rate mortgages. On the other hand, that rate could increase later on in your loan term. If you plan to sell your home or refinance before that point, though, it may be a good idea to take out an ARM.

Is a 7-year ARM still a 30-year mortgage?

A 7-year ARM could have a 30-year payoff timeline, though it's not a given — nor does it function the same way as a fixed-rate 30-year mortgage does. With a 7/1 ARM, you'd have a set interest rate for the first seven years. After that, the rate shifts once annually for the rest of your loan term. Most ARMs have 30-year term lengths, though some lenders offer 15-year terms.

What is the biggest drawback of an adjustable-rate mortgage?

The biggest drawback of an adjustable-rate mortgage is that the interest rate can increase after a certain period of time, sending your monthly mortgage payment up with it. This can be hard to budget for, especially if you have unreliable income.

What is an FHA ARM? A guide for borrowers.

An FHA adjustable-rate mortgage gives borrowers a lower rate for the first few years of their loan term. Learn whether an FHA ARM aligns with your goals.

How does an interest-only mortgage work?

With an interest-only mortgage, you make payments only on the interest for the first few years, not the principal. Learn how an interest-only loan works.

There are several types of home refinance options, including cash-out, no-closing-cost, and more. Learn which type of refinance is best for your financial goals.

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