Can you refinance an ARM loan to a fixed-rate mortgage?

When you became a homeowner, you may have opted for an adjustable-rate mortgage (ARM). Now, perhaps years later, you may be wondering if you should refinance to a fixed-rate mortgage. Let’s take an in-depth look at when it makes sense to refinance, the process of refinancing to a fixed-rate mortgage, and other important information. That way, you can decide if you’ll be better off staying with an ARM or going the fixed-rate route.

Can you refinance an ARM loan?

Yes, you can refinance an adjustable-rate mortgage, and it’s just as easy as refinancing any other loan. By refinancing, the borrower is replacing their existing loan with a new, updated loan – usually a fixed-rate mortgage.

The exact requirements for refinancing an ARM loan vary by lender, so if you’re interested in refinancing to a fixed-rate mortgage, speak with a mortgage lender about your unique situation and learn about that lender’s requirements. Before deciding if refinancing is right for you, you’ll also need to understand the basics of adjustable-rate and fixed-rate mortgages.

Adjustable-rate mortgage vs. fixed-rate mortgage

The difference between ARMs and fixed-rate mortgages mostly comes down to how the interest rates work for each loan. Let’s compare the two options.

What is an adjustable-rate mortgage?

With an adjustable-rate mortgage, your loan’s interest rate adjusts periodically over the life of the loan. An ARM starts with a low, fixed interest rate for an introductory period of 5, 7 or 10 years. Then, once the initial period ends, your rate will become adjustable and change based on current market trends.

Generally, your interest rate will adjust every 6 months or once a year, depending on the terms of your loan. If you have an ARM with a 7-year introductory period and the scheduled interest rate changes twice annually after that, you’ll see it documented as a 7/6 ARM. The first number will always be the length of the initial period, and the second will always be how often you can expect the rate to adjust once that period is over. In the case of a 7/6 ARM, you can expect your rate to adjust every 6 months after your initial period of 7 years.

ARM rate caps

ARMs have a set margin, which is the lowest the interest rate can go until the loan is paid in full. The following three rate caps limit how much the interest rate can fluctuate (up or down) over a specified period:

1. Initial: Immediately after the fixed rate ends.
2. Periodic: Between each rate period.
3. Lifetime: Over the 30 years.

On your loan paperwork, you’ll see your rate caps expressed as a series of numbers with slashes, such as 2/1/5. That means your first adjustable rate can’t fluctuate more than 2% from your introductory rate, your rate can’t change more than 1% each period, and your rate can’t deviate more than 5% during the life of the mortgage.

When taking out an ARM makes sense

An ARM could be a good choice if current interest rates are high. You can catch a break during the introductory period because your mortgage lender may have the chance to increase your rate later. Switching to an adjustable-rate mortgage could also be wise if you plan to move before the initial period ends or you plan to pay down your loan fast while the interest rate is low.

What is a fixed-rate mortgage?

A fixed-rate mortgage has fewer moving parts and is more predictable for borrowers. As the name implies, the interest rate remains fixed, or stable, throughout the life of the loan (often as long as 30 years). That means your monthly payment will stay the same (aside from property tax and homeowners insurance increases over the years) as long as you have your mortgage.

When taking out a fixed-rate mortgage makes sense

Borrowers who want predictable payments and an interest rate that will never change benefit most from a fixed-rate mortgage. If you’re looking to simplify your monthly payments and want to lock in an interest rate, a fixed-rate mortgage is your best option.

Reasons to consider refinancing your ARM loan

You might want to think about refinancing your ARM (also known as a rate-and-term refinance or a cash-out refinance) if you:

• Want the budget stability of a fixed-rate loan
• Can secure a lower interest rate than you’re currently paying on your ARM
• Are coming to the end of your ARM’s introductory period and want to lower your mortgage payment and avoid a potential interest rate increase
• Would like a shorter loan term
• Have sufficient home equity and want to take cash out of your home
• Need to remove a name from the mortgage

To see if refinancing your ARM is a prudent financial move for you, use the Rocket Mortgage^® Refinance Calculator.

How to refinance an ARM loan to a fixed-rate mortgage

If you decide to refinance from an ARM to a fixed-rate mortgage, there’s good news: The refinancing process is relatively straightforward and is similar to when you purchased your home.

Below are the steps you’ll need to take.

1. Choose a lender

When you refinance, you take out another loan that the lender uses to pay off your original note. Then, you pay on the new mortgage. You don’t need to work with your original lender, although keeping the same lender is an option. You’re free to choose the lender that best meets your needs, so you can shop around before committing.

2. Fill out your application

Once you’ve chosen a lender, it’s time to apply for the new loan. The lender will need to review your finances to ensure you can pay the mortgage. Underwriters will look at your income, credit score, property, assets and non-mortgage debt.

3. Provide the necessary documentation

You’ll likely need to provide pay stubs, bank statements and W-2s to verify your income. If you’re self-employed, you’ll have to show up to 2 years’ worth of federal tax returns and other applicable documents as required by your loan program.

4. Lock in your interest rate

Interest rates can fluctuate between the time you submit your refinance application and the time you close on your loan. When rates go down, this time gap will be to your advantage, but your mortgage payment will likely be higher than planned if rates go up before closing day. Thankfully, by locking in your interest rate when you apply, you can avoid getting hit with a higher rate (and more expensive home loan) at closing.

5. Close on your new loan

Once your lender reviews your application and other documentation and approves the loan, you’re ready to close. The refinance closing process is similar to the process when you first bought your home: You’ll review the terms and conditions of your new loan, pay any closing costs you didn’t roll into your new mortgage and sign all necessary documents.

When you’re done, your lender will pay your original loan in full, and you’ll only have to make payments on your new mortgage.

ARM refinance requirements

Although each lender has their own rules, here are some general mortgage refinance requirements to keep in mind:

• Length of homeownership: Typically, you’ll need to own the home at least 6 months before you’re eligible to refinance.
• Home equity: You’ll generally need at least 20% equity in the home.
• Credit score: For conventional loans, you’ll need a minimum credit score of 620. Federal Housing Administration (FHA) loans, meanwhile, require a minimum score of 580 – 620. For Department of Veterans Affairs (VA) loans, you’ll need a score of at least 580 to qualify for a refinance.
• Debt-to-income ratio (DTI): Your DTI should be under 50%. A DTI of 50% means that half of your earnings go toward monthly debt payments. Lenders prefer a lower DTI because it signals that the new mortgage won’t stretch you too thin financially.

Your home will need an appraisal

Before closing, the lender may need to order a property appraisal. The lender needs to verify that the home is worth more than what you’re trying to borrow – which will be less than your original loan balance, making it likely that the appraisal will come in at a higher amount. Keep in mind that the value of your house might negatively change, resulting in a lower appraisal. If the appraisal goes well and your application is approved, you’re clear to close.

The bottom line: Refinance your adjustable-rate mortgage only if it makes sense

At first glance, refinancing your ARM to a fixed-rate mortgage might look appealing. Moving to a fixed-rate loan can help you get a more predictable monthly mortgage payment and keep you from having to worry about interest rates fluctuating year after year. However, you’ll want to review your finances to make sure refinancing is in your best interest.

If refinancing will reduce the stress you feel over your budget or help you lock in a lower interest rate, switching to a fixed-rate loan can be a great choice. Explore your financing options and start the refinance approval process today.