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Step 1
Know what index your bank is using. This is the base rate that is charged on top of the current interest rate. There may be a difference in the index at the beginning and after the adjustment period. The adjustment period is merely the period of time the bank keeps payments the same between increases or decreases.
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Step 2
Find out what the initial rate and adjustment period are on the ARM. The initial rate includes the index and margin. The initial adjustment period may be longer than the adjustment period thereafter. Some loans have a five year adjustment to begin, then one year afterwards. This example would be a one year ARM.
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Step 3
Ask how long each subsequent adjustment period is after the initial one. Adjustment periods are every year, every three years and every five years. The longer between adjustment periods the less frequently the interest rate will change on the loan.
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Step 4
Know the caps enforced on the ARM. There are two types of caps: periodic adjustment and lifetime. These cap the maximum rate increases per period and per the lifetime of the loan. The government dictates that all loans must have a lifetime maximum cap. Most banks have a periodic cap enforced also. The lender will provide information on periodic caps for your ARM.
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Step 5
Learn about carryover. This is when the rate would be higher, but due to the cap, it can't go up. After rates fall again, payments don't drop, since the bank applies whatever they couldn't apply because of the cap. Different banks handle carryover differently, so the carryover is dependent on the individual ARM. It is necessary to speak to the bank mortgage specialist to find out how it applies to the ARM.
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Step 6
Know about prepayment penalties. Sometimes these can be several thousand dollars, depending on the rules. There may also be fees for refinancing adjustable rate mortgages before a certain date--usually three to five years from the date of the loan.
