adjustable-rate mortgage (ARM) business definition

A real estate loan on which the interest rate is periodically adjusted, generally semiannually. The rate is set based on some short-term interest rate such as the six-month U.S. Treasury bill rate. Adjustable-rate mortgages generally include a maximum amount the interest rate can increase during a given year and over the life of the loan. For example, an adjustable-rate loan with a starting interest rate of 5% might limit annual changes to 2% and limit the lifetime change to 5%. In this case, the interest rate on the loan could not rise above 10%. Adjustable-rate loans tend to transfer risk from the lender to the borrower. Also called variable-rate mortgage. Compare fixed-rate loan. See also adjustment period, annual cap, conversion option, convertible ARM, two-step mortgage.