Also known as a variable-rate loan, usually charges a lower initial interest rate than a fixed-rate loan. The interest rate fluctuates over the life of the loan based on market conditions, but the loan agreement usually sets maximum and minimum rates. When interest rates rise, generally so do your loan payments; and when interest rates fall, your monthly payments may be lowered.

An adjustable rate loan has provisions to change the interest rate at prespecified points in time based on changes in a market index, a lenderâs cost of funds or other factors as determined by the lender.

See variable interest rate.

A loan in which the interest rate is adjusted periodically according to changes in a preselected index rate. The name typically describes the frequency of the rate adjustment. For example, the rate on a 1-year Adjustable-Rate Loan is adjusted once a year.

Adjustable-rate mortgages, or ARMs as they are often called, provide greater flexibility because the interest rate you start with will often be lower than with a fixed-rate mortgage. This saves you money initially and might even qualify you for a more expensive home. However, your interest rate is tied to a market index. As the index goes up or down, your payments will too, at each scheduled adjustment period.