This **option ARM calculator** provides you with a feel for the alternative payment arrangements this type of mortgage has to offer the home buyer. An option ARM is a mortgage where the borrower has the option of making a minimum payment, an interest-only payment, or a fully amortizing payment.

The variables used in our online calculator are defined in detail below, including how to interpret the results.

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The total amount of money borrowed for this mortgage, also referred to as the principal of the loan.

This is the introductory interest rate provided to purchasers of Option ARM loans. The start rate is sometimes referred to as the teaser rate.

The index rate is a published financial index such as LIBOR (London Interbank Overnight Rate), 12-MTA (Monthly Treasury Average), CODI (Cost of Deposits Index), COFI (Cost of Funds Index), or COSI (Cost of Savings Index), which is used to periodically adjust the interest rate of the ARM.

With Option ARMs, the margin is the difference between the mortgage's actual interest rate and the index rate expressed in percentage terms. The lower the margin rate, the better the loan. Margins can vary from a low of around 2% to as high as 7%.

Since Option ARMs allow the borrower to make a minimum payment, which is less than the fully amortized rate, the borrower can find themselves in a negative amortization, or NegAm, situation. The recasting cap will limit how much negative amortization occurs. For example, if the original loan is for $100,000, and the recast cap is 10%, then when the loan has grown to $100,000 x 110% or $110,000, the loan will be recast into a fully amortizing mortgage.

The term of the loan is the number of years over which the mortgage will be repaid. The most common mortgage terms are 15, 20, 25, and 30 years.

This Option ARM calculator allows you to compare a fixed rate mortgage to the Option ARM you're evaluating. In this example, you'd enter the interest rate on a competing fixed rate mortgage.

The minimum payment for this type of loan is based on an amortization schedule, which uses the start rate (%) to figure out the monthly payments. Keep in mind that while the start rate minimized the borrower's monthly payment, negative amortization occurs. The loan is getting larger each month.

With an interest-only mortgage payment, you are only paying interest charges each month. The principal, or balance, of the loan is never reduced. This keeps your monthly payments low, but increases the total interest charges over the life of the mortgage.

The deferred payment each month is also referred to as the deferred interest. This value is calculated as the difference between the minimum payment and the interest only payment. This value is equal to the NegAm that occurs each month the minimum payment is made on the loan.

The fully indexed rate is equal to the sum of the index rate plus the margin rate. This is the interest rate that is used to determine a fully amortized loan.

The recast mortgage amount is equal to the Total Home Loan amount times the Recast Cap. For example, if the original loan is for $100,000, and the recast cap is 10%, then the recast mortgage amount would equal $100,000 x 110% or $110,000.

The recast period is an estimate of the number of months that the minimum mortgage payment can be made before the recast mortgage cap is reached.

The recast monthly payment is a fully amortizing loan that uses the recast mortgage amount, the term of the loan, and the fully indexed rate as the determining factors for the loan payments.

The fixed rate mortgage value is provided as a comparison tool. By comparing this value to the minimum payment, interest-only payment, and recast monthly payment, the borrower can understand the long-term implications of taking out an Option ARM.

*Option ARM Calculator* - Copyright © 2007 2015 Money-Zine.com (Last Reviewed on February 3, 2015)

Disclaimer: These online calculators are made available and meant to be used as a screening tool for the investor. The accuracy of these calculations is not guaranteed nor is its applicability to your individual circumstances. You should always obtain personal advice from qualified professionals.