What are VA ARMs? | accelerate credit
How do VA adjustable rate mortgages work?
VA adjustable rate mortgages are functionally the same as any other ARM. You stay at a fixed rate for a set period of time at the beginning of the loan. At the end of the set period, they adjust at specific intervals. There are caps and floors that limit how much the interest rate can adjust up or down initially, at each subsequent adjustment, and over the life of the loan.
When the interest rate adjusts, it does so based on an index. Whatever index is used, this is added to a margin and rounded to the nearest 0.125%.
In the case of VA loans, the index used for adjustments is the 1-year Constant Maturity Treasury (CMT). Interest rates are adjusted up or down once a year after the specified deadline on a date specified in your mortgage contract.
They don’t have to be, but most ARMs are based on a 30-year lifespan. When you see something like “5-year ARM,” it’s referring to the period that you have a fixed rate before adjustments. Let’s see an example of how this works. Let’s say you saw an advertisement for a 5/1 ARM with 1/1/5 caps. Your initial interest rate is 5% with a margin of 2%.
First the 5/1. This means that the rate remains fixed for the first 5 years of your term and is then adjusted once a year. Now the caps. The first 1 is the initial cap. With the initial adjustment, your rate will not increase or decrease by more than 1%. The second 1 is the upper and lower bound for each subsequent adjustment. The last number is the lifetime customization limit. Your rate will not go up or down by more than 5% as long as you have the loan.
Depending on the difference between current market interest rates and your starting interest rate, the floor is unlikely to come into play due to the margin. In this case, your rate will never be lower than 2%. But it also helps limit the upside of interest rate adjustments.
When might you choose an ARM over a fixed-rate mortgage? There are two situations to think about. First, if you anticipate moving in and out of your home before your interest rate ever adjusts, you’ll get a lower interest rate than a comparable 30-year interest rate because the interest rate can be adjusted and it’s not necessary investors try to forecast inflation over a long period of time.
Second, as interest rates rise, ARMs tend to have rates that appear significantly lower than fixed rates. This has to do with a complicated investment concept called yield spread premium. We don’t have to go into that here. Just know that ARMs look better when interest rates rise.
rocket mortgage® offers 5-year VA ARMs. The VA also gives lenders the ability to provide loans with 1-, 3-, and 5-year fixed-rate periods from the inception of the ARMs.