Mortgage Glossary ARM's D

Mortgage Glossary - All About ARM's D - I

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Deferred Interest

When a mortgage is written with a monthly payment that is less than required to satisfy the note rate, the unpaid interest is deferred by adding it to the loan balance. See negative amortization.

Fully Amortized ARM

An adjustable rate mortgage with a monthly payment that is sufficient to amortize the remaining balance at the interest accrual rate over the amortization term.

Fully indexed interest rate

The current index value plus the margin on an ARM. Most ARMs have initial interest rates well below the fully indexed rate. If the index does not change from its initial level, after the initial rate period ends the interest rate will rise to the fully indexed rate after a period determined by the interest rate increase cap. For example, if the initial rate is 4% for 1 year, the fully indexed rate 7%, and the rate adjusts every year subject to a 1% rate increase cap, the 7% rate will be reached at the end of the third year.

Historical Scenario

The assumption that the index value to which the rate on an ARM is tied follows the same pattern as in some prior historical period.

Index

A number used to compute the interest rate for an adjustable rate mortgage (ARM). The index is generally a published number or percentage, such as the average interest rate or yield on Treasury bills. A margin is added to the index to determine the interest rate that will be charged on the ARM. This interest rate is subject to any caps that are associated with the mortgage.

Indexed Rate

The sum of the published index plus the margin. For example if the index were 9% and the margin 2.75%, the indexed rate would be 11.75%. Often, lenders charge less than the indexed rate the first year of an adjustable rate mortgage.

Initial Interest Rate

This refers to the original interest rate of the mortgage at the time of closing. This rate changes for an adjustable rate mortgage (ARM). It's also known as "start rate" or "teaser."

Initial Rate Period

The number of months for which the initial rate holds. On ARMs this period can range from 3 months to 10 years, but on an fixed rate mortgage the initial rate holds for the life of the loan.

Interest Rate Adjustment Period

The frequency of rate adjustments on an ARM after the initial rate period is over. The rate adjustment period is sometimes but not always the same as the initial rate period. As an example, using common terminology, a 3/3 ARM is one in which both periods are 3 years while a 3/1 ARM has an initial rate period of 3 years after which the rate adjusts every year.

Interest Rate Ceiling

For an ARM, the maximum interest rate, as specified in the mortgage note.

Interest Rate Floor

For an ARM, the minimum interest rate, as specified in the mortgage note.

Interest Rate Decrease Cap

The maximum allowable decrease in the interest rate on an ARM each time the rate is adjusted. It is usually 1 or 2 percentage points.

Interest Rate Increase Cap

The maximum allowable increase in the interest rate on an ARM each time the rate is adjusted. It is usually 1 or 2 percentage points.

Interest Rate Index

The specific interest rate series to which the interest rate on an ARM is tied, such as "Treasury Constant Maturates, 1-Year," or "Eleventh District Cost of Funds." All the indices are published regularly in readily available sources.

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