Variable Rate Mortgage

DEFINITION of 'Variable Rate Mortgage'

A type of home loan in which the interest rate is not fixed. The two most common types of mortgages in the United States are fixed rate and variable rate (also called adjustable rate). With a fixed rate mortgage, the interest rate does not change for the entire loan term.

Borrowers know with certainty what the interest and principal payment on their mortgage will be each month for as long as they carry the mortgage. With a variable rate mortgage, the interest rate adjusts periodically. Monthly principal and interest payments change according to a predetermined schedule throughout the life of the loan.

BREAKING DOWN 'Variable Rate Mortgage'

Variable rate mortgages are attractive because they usually have a low interest rate for an initial period of a few years, and that initial rate is usually less than the rate on a fixed rate mortgage. This interest-rate difference can yield significant savings for borrowers at the beginning of the mortgage term. However, once the introductory period ends, the rate will move up or down as market interest rates change. Interest rate increases can be problematic for borrowers with variable rate mortgages. In a worst-case scenario, the mortgage payments can become so unaffordable that the homeowner defaults and eventually loses the home to foreclosure. In general, the more money the homeowner has borrowed, the more a change in interest rate will affect the monthly payment amount.