DEFINITION of 'Option Adjustable-Rate Mortgage - Option ARM'

A type of mortgage where the mortgagor (borrower) has several options as to which type of payment is made to the mortgagee (lender). In addition to having the choice of making payments of interest and principal that amounts to those made in conventional mortgages, option ARMs also have alternative payment options where the mortgagor can make significantly smaller payments by making interest-only payments or minimum payments.

BREAKING DOWN 'Option Adjustable-Rate Mortgage - Option ARM'

Since many option ARMs offer a low teaser rate, many mortgagors unknowingly refinance their present mortgage in hopes of making lower payments. Unfortunately, once these short-term teaser rates expire, the rates of interest are returned back to those similar to conventional mortgages.

Furthermore, for those unlucky mortgagors that elected to make minimum payments, they will find that the principal owed on their mortgage has actually increased. This is because the value of minimum payments did not entirely cover the mortgage's interest. The uncovered interest would then be added to the mortgage's principal.

RELATED TERMS
  1. Interest-Only Mortgage

    A type of mortgage in which the mortgagor is only required to ...
  2. Deferred Interest

    The amount of interest that is added to the principal balance ...
  3. Payment Option ARM Minimum Payment

    An option to make minimum payments on an payment option ARM, ...
  4. Flexible Payment ARM

    A type of adjustable-rate mortgage that allows the borrower to ...
  5. Annual Mortgage Statement

    An annual report sent to a mortgagor by the mortgagee's servicer ...
  6. Payment Shock

    The risk that a loan's scheduled future periodic payments may ...
Related Articles
  1. Personal Finance

    Choose Your Monthly Mortgage Payments

    Exotic mortgages allow you to decide how much to pay. Find out how much they really cost.
  2. Personal Finance

    Option ARMs: American Dream Or Mortgage Nightmare?

    Option adjustable rate mortgages could make or break your home-buying experience.
  3. Personal Finance

    Understanding the Mortgage Payment Structure

    We explain the calculation and payment process as well as the amortization schedule of home loans.
  4. Personal Finance

    Make A Risk-Based Mortgage Decision

    Find out how to choose which mortgage style is right for you.
  5. Personal Finance

    This ARM Has Teeth

    Find out how to avoid getting bitten when your mortgage rate resets.
  6. Personal Finance

    How Interest Rates Work On A Mortgage

    A step-by-step explanation of the interest calculations, mortgage types, and how the loan is eventually "retired" – which means paid off.
  7. Personal Finance

    Mortgages: Fixed-Rate Versus Adjustable-Rate

    Both of these have advantages and disadvantages depending on your financial needs and prospects.
  8. Personal Finance

    5 Risky Mortgage Types To Avoid

    There are plenty of ways to end up with a bad mortgage. The risks of these five should make every homebuyer think twice before signing.
  9. Personal Finance

    Be Mortgage-Free Faster

    Getting rid of this debt faster has bigger benefits than you might think.
  10. Personal Finance

    ARMed And Dangerous

    In a climate of rising interest rates, having an adjustable-rate mortgage can be risky.
RELATED FAQS
  1. Why does the majority of my mortgage payment start out as interest and gradually ...

    When you make a mortgage payment, the amount paid is a combination of an interest charge and principal repayment. Over the ... Read Answer >>
  2. Is there any time I would want to have a zero-principal mortgage?

    As a general rule, entering a zero principal mortgage, or what is commonly referred to as an "interest-only mortgage", is ... Read Answer >>
  3. What are the different types of subprime mortgages?

    Clarify your understanding of subprime mortgages. Learn about the different types, how they work and when they might be beneficial. Read Answer >>
  4. What are the pros and cons of a simple-interest mortgage?

    Learn the difference between a simple interest mortgage and a standard mortgage, along with their relative advantages and ... Read Answer >>
  5. I've come into a large amount of money. Should I invest it or pay off my mortgage?

    There is no simple answer to this question as it depends on a number of key factors, namely the aspects or criteria of your ... Read Answer >>
Trading Center