Fixed vs Adjustable-Rate Mortgage: How Each One Works

One of the first choices you face when you shop for a home loan is the rate type: fixed vs adjustable-rate mortgage. A fixed-rate loan keeps the same interest rate for the entire term. An adjustable-rate mortgage, or ARM, starts with a rate that is fixed for a set period, then changes on a schedule based on a market index.

This guide explains how each one works, what labels such as 5/1 and 7/6 mean, how rate caps limit changes, and how to run the numbers yourself. It is general education, not financial advice. Rates, products and rules vary by lender, and a licensed loan officer or housing counselor can help you with your specific situation.

The short version

Note that only principal and interest stay fixed on a fixed-rate loan. Property taxes and homeowners insurance can still change, which is why your total payment may move. See what is PITI for the full breakdown.

How a fixed-rate mortgage works

With a fixed-rate mortgage, the interest rate is locked when the loan closes. Your principal and interest payment is calculated once with the standard amortization formula and stays the same for the life of the loan.

Early payments are mostly interest; later payments are mostly principal. You can see exactly how that shifts with our amortization schedule calculator. If you want the math behind it, read how mortgage payments are calculated.

The main benefit is predictability. You know your principal and interest payment for 15 or 30 years. If market rates rise, your rate does not. If market rates fall, you would need to refinance to get a lower rate, which has costs. Our refinance calculator shows how that works.

How an adjustable-rate mortgage works

An ARM has two phases:

1. The initial fixed period. The rate is fixed for a set number of years, often 3, 5, 7 or 10.
2. The adjustment period. After that, the rate resets on a schedule, such as every six months or once a year.

When the rate adjusts, the new rate is calculated as:

New rate = index + margin, subject to the loan's caps.

• Index: a market benchmark that moves over time. Most new ARMs in the US use SOFR (the Secured Overnight Financing Rate). LIBOR, the old benchmark, stopped being published for US dollar loans after June 30, 2023.
• Margin: a fixed number of percentage points set in your loan documents. It does not change.
• Caps: limits on how much the rate can change.

Because the index can go up or down, your payment after the fixed period can go up or down too.

What 5/1, 7/1 and 7/6 mean

ARM names usually have two numbers:

• The first number is how many years the starting rate is fixed.
• The second number is how often the rate adjusts after that.

So:

• A 5/1 ARM is fixed for 5 years, then adjusts once a year.
• A 7/1 ARM is fixed for 7 years, then adjusts every year.
• A 5/6 ARM or 7/6 ARM is fixed for 5 or 7 years, then adjusts every 6 months. The "6" here means months, not years. Many SOFR-based ARMs use six-month adjustments.

Always read the loan estimate to confirm the exact schedule.

How rate caps work

Caps protect borrowers from unlimited rate jumps. There are usually three:

• Initial adjustment cap: the most the rate can change at the first adjustment.
• Periodic cap: the most it can change at each later adjustment.
• Lifetime cap: the most it can rise above the starting rate over the life of the loan.

Caps are often written as three numbers, such as 2/1/5. That would mean the rate can change up to 2 percentage points at the first adjustment, up to 1 point at each later adjustment, and no more than 5 points above the start rate ever. Cap structures vary, so check your loan's terms. The Consumer Financial Protection Bureau's homebuying resources explain caps in plain language.

A worked example

Let's compare two hypothetical loans on a $300,000 balance over 30 years. These rates are made up for illustration only and are not current market rates.

• Fixed: 6.5% for 30 years.
• 5/1 ARM: 6.0% for the first 5 years, then adjusts yearly.

After year 5, the ARM payment is recalculated on the remaining balance of about $279,163 over the remaining 25 years. Here is what that payment would be at different reset rates:

In this example, if the rate rose to 7% or more after year 5, the ARM payment would pass the fixed-rate payment of $1,896.20. If rates stayed the same or fell, the ARM would remain lower. Nobody knows which will happen, which is the core trade-off. To run your own numbers, use the mortgage calculator and change the rate to test different scenarios.

When people tend to consider each option

This is not a recommendation, but these are the situations people commonly discuss with lenders:

Fixed-rate loans are often considered when: - A stable, predictable payment matters most. - The borrower expects to stay in the home for a long time. - The budget has little room for a higher payment later.

ARMs are often considered when: - The borrower expects to sell or refinance before the fixed period ends. - They want a lower starting payment and understand it can rise. - They have room in their budget for the payment at the lifetime cap.

Plans change, though. A job move might not happen, and refinancing depends on future rates, home values and qualifying again, none of which is guaranteed. The CFPB suggests asking whether you could afford the payment at the highest possible rate.

Questions to ask a lender

If you are comparing loan types, these questions help:

1. What is the index, and what is the margin?
2. What are the initial, periodic and lifetime caps?
3. How often does the rate adjust after the fixed period?
4. What is the highest payment possible under the caps?
5. Is there a prepayment penalty?
6. How does the APR compare with the fixed-rate option?
7. Are there rate floors that stop the rate from falling below a level?

Compare Loan Estimates side by side; they use a standard format that makes the comparison easier. And remember that closing costs apply to both loan types; see our closing costs guide.

How rate type fits with other choices

Rate type is only one decision. You also choose:

• Term: 15 vs 30 years changes payment size and total interest. See 15-year vs 30-year mortgage.
• Down payment: affects PMI and loan size. See how much down payment do I need.
• Buydowns: a temporary rate buydown lowers the rate for the first year or two of a fixed loan, which is different from an ARM.

When rates move, both new buyers and ARM borrowers feel it. Our post on what happens when interest rates rise explains the bigger picture.

Hybrid and other loan types

Most ARMs offered to homebuyers today are "hybrid" ARMs, meaning they combine an initial fixed period with an adjustable period. That is what the 5/1 and 7/6 names describe. Some government-backed programs, such as FHA and VA loans, also offer adjustable-rate versions with their own rules, alongside fixed-rate options. Our FHA loan calculator and VA loan calculator can help you estimate payments for those programs. Whatever the program, the same questions apply: how long is the rate fixed, what index and margin are used, and what are the caps.

Common misunderstandings

• "A fixed-rate payment never changes." Principal and interest stay the same, but taxes and insurance in escrow can change.
• "An ARM will always cost more." Not necessarily. It depends on what the index does and how long you keep the loan.
• "An ARM can adjust right away." Not during the initial fixed period, which is set in your loan documents.
• "The cap is the maximum payment." The cap limits the rate, not the payment directly; the payment also depends on your balance and remaining term.