DEFINITION of 'Payment Option ARM'

A monthly adjusting adjustable-rate mortgage (ARM) which allows the borrower to choose between several monthly payment options: a 30 or 40-year fully amortizing payment, a 15-year fully amortizing payment, an interest-only payment, a minimum payment or any amount greater than the minimum payment.

The minimum payment option is calculated based on an initial temporary start interest rate. While this temporary start interest rate is in effect, this is the only payment option available. It is a fully amortizing payment. After the temporary start interest rate expires, the minimum payment amount remains a monthly payment option; however, whenever a payment is made which is less than the scheduled interest-only payment, deferred interest is created.

BREAKING DOWN 'Payment Option ARM'

Payment option ARMs have a great deal of payment-shock risk. The monthly payments might increase for several reasons, including an unscheduled recast when a negative amortization limit is reached. The fully indexed interest rate is important in this calculation. The rate of negative amortization is a function of the interest-only payment (based on the fully indexed interest rate) and the minimum payment. If the fully indexed interest increases substantially, the rate of negative amortization increases when the minimum payment is made, increasing the likelihood that the negative amortization limit will be reached and the mortgage will recast.

RELATED TERMS
  1. Flexible Payment ARM

    A type of adjustable-rate mortgage that allows the borrower to ...
  2. Fully Amortizing Payment

    A periodic loan payment, part of which is principal and part ...
  3. Growing-Equity Mortgage

    A fixed rate mortgage on which the monthly payments increase ...
  4. Deferred Interest

    The amount of interest that is added to the principal balance ...
  5. Negative Amortization

    An increase in the principal balance of a loan caused by making ...
  6. Scheduled Recast

    A recalculation of the remaining amortization schedule of a mortgage ...
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. Investing

    Payment Option ARMs: A Ticking Time Bomb?

    With these mortgages the loan's principal can continue to increase - even as payments are made.
  3. Personal Finance

    Option ARMs: American Dream Or Mortgage Nightmare?

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

    Mortgage Amortization Strategies

    Should you get a 30-year mortgage? A 15-year one? Ways to decide which mortgage is the best fit.
  5. Personal Finance

    This ARM Has Teeth

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

    Understanding the Mortgage Payment Structure

    We explain the calculation and payment process as well as the amortization schedule of home loans.
  7. Investing

    Who Should Get an Interest-Only Mortgage?

    In the right circumstances, interest-only loans can save you money and help accomplish financial goals; in the wrong circumstances they can be very costly.
  8. Investing

    When is a Down Payment Used?

    A down payment is an initial cash payment on an expensive good.
  9. Personal Finance

    Ways to Be Mortgage-Free Faster

    Getting rid of this debt faster has bigger benefits than you might think.
RELATED FAQS
  1. How is the minimum payment on a credit card calculated?

    Even when minimum payments are low, consumers should still aim to pay off credit card balances every month. Read Answer >>
  2. When Do Mortgage Payments Usually Start?

    Discover when your first mortgage payment is due and how it differs from rent. Learn about the closing process and why you ... Read Answer >>
  3. What does amortization mean in the context of a pension plan?

    Discover when and why accountants use amortization techniques in the context of pension plans, and why those changes help ... Read Answer >>
Trading Center