What Is a Teaser Loan?
A teaser loan can refer to any loan that offers a teaser rate of interest. Teaser loans are a popular promotional product for loan issuers that tend to entice a broad array of borrowers. Having the flexibility to offer a teaser rate can increase the customization and structuring options for all types of loans.
- A teaser loan is any loan that offers a lower interest rate for a fixed amount of time as a purchase incentive.
- Common teaser loans include credit cards with low introductory offers and adjustable-rate mortgages.
- Borrowers must be aware of the rates that will apply after a teaser rate expires.
How Teaser Loans Work
Credit cards with 0% introductory rates are probably the most commonly known teaser loans. Adjustable-rate mortgages (ARMs) also use teaser rates to structure loans in various ways to appeal to a variety of borrowers.
Credit cards that come with 0% introductory teaser rates are among the most popular products on the market. These loans offer borrowers a maximum credit limit for borrowing with no interest charged throughout an introductory period, typically for approximately one year. Credit cards have simple teaser rate structuring.
With a teaser rate credit card, the 0% interest rate applies for a specified period of time and then a standard rate detailed in the credit agreement—the annual percentage rate (APR)—takes effect.
Borrowers sometimes apply for a credit card with a 0% introductory teaser rate with the goal of paying off debt from credit cards with higher interest rates. The teaser rate provides them with a specified period during which to clear the debt without paying interest before a standard rate (usually the prime rate plus an additional percentage that may be based on the borrower's credit score) starts.
Teaser loans can help save borrowers considerable amounts of money on interest costs, but it is important to understand which interest rate will apply after the teaser rate expires.
Adjustable-rate mortgages often use teaser rates in a few different ways. Some ARM mortgages begin with the teaser rate, which is a low promotional interest rate. This rate can be charged during all or a portion of the fixed rate part of the mortgage. Some adjustable-rate mortgages may also use variations of teaser rates in the variable portion of the loan.
One example includes the payment options in a payment option ARM. In a payment option ARM, the borrower can choose among multiple payment choices each month, even opting to pay a lower amount (although their debt may still increase). Often, one of these choices is a payment that includes the teaser rate of interest.
Adjustable-rate mortgages also have the flexibility to structure a loan with interest rate caps that can also integrate the teaser rate concept. These loans will typically be structured as either a 2-2-6 or a 5-2-5. These numbers refer to the incremental increases that can apply at various times during the loan. For instance, a 2-2-6 (sometimes 2/2/6) loan the first number refers to the cap on how much the interest rate can change each adjustment, in this case no more than 2%; in a 5-2-5 it would be capped at 5%.
Special Considerations for Teaser Loans
Teaser loans with low interest rates can help borrowers save considerable amounts of money on interest costs. However, borrowers must also be aware of the rates that will apply after a teaser rate expires. They should clearly understand the payment terms and requirements detailed in their loan contract before agreeing to a teaser loan’s terms.