An Adjustable Rate Mortgage (ARM) is a loan where the interest rate may change periodically. The interest rate is based on an "index" that may go up or down during the lifetime of the loan. As a result, your monthly payments may also go up or down during the lifetime of the loan. The ARM Note stipulates the frequency and the index for the interest rate and principal and interest adjustments.
There are a number of advantages to an ARM.
Generally, an ARM offers a lower initial interest rate than a fixed-rate loan. With an ARM, you may be able to qualify for a larger amount because the decision is sometimes based on current income and the first year's monthly payments, which will most likely be lower. An ARM can be less expensive than a fixed-rate loan if interest rates remain steady or decline over a long period of time.
One disadvantage to an ARM is that an increase in interest rates will lead to higher monthly payments of principal and interest in the future. Another disadvantage is that the principal and interest payments are not fixed.