For an adjustable-rate mortgage (ARM), what are the index and margin, and how do they work?
For an adjustable-rate mortgage, the index is a benchmark interest rate that reflects general market conditions and the margin is a number set by your lender when you apply for your loan. The index and margin are added together to become your interest rate when your initial rate expires.
With an adjustable-rate mortgage, the rate stays the same, generally for the first year or few years, and then it begins to adjust periodically. Once the rate begins to adjust, the changes to your interest rate are based on the market, not your personal financial situation.
To calculate your new interest rate when it’s time for it to adjust, lenders use two numbers: the index and the margin.
Index + Margin = Your Interest Rate
The index is a benchmark interest rate that reflects general market conditions. The index changes based on the market. Changes in the index, along with your loan’s margin, determine the changes to the interest rate for an adjustable-rate mortgage loan. The lender decides which index your loan will use when you apply for the loan, and this choice generally won’t change after closing.
The margin is the number of percentage points added to the index by the mortgage lender to set your interest rate on an adjustable-rate mortgage (ARM) after the initial rate period ends. The margin is set in your loan agreement and won't change after closing. The margin amount depends on the particular lender and loan.
The fully indexed rate is equal to the margin plus the index.
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