An "adjustable rate note" or "variable note" is otherwise known as an ARM and is probably the most dangerous type of loan for a homeowner. An adjustable rate loan requires ample disclosure so that you can fully understand the consequences of a fluctuating payment. An adjustable rate mortgage is simply a loan that has an interest rate which "adjusts" or fluctuates with the prevailing market index. For example, if the relevant market index goes up, your adjustable interest rate and payment will also likely go up. Adjustable rate loans are usually fixed for a short period of time, anywhere between 1 to 5 years, then resets itself to convert to the varying market conditions.

Adjustable rate mortgages were traditionally a commercial product and for real estate investors who normally kept property for a short period of time. The short ownership period for the investor would make for a very small payment ideal during the transition period before selling the home. These adjustable loans were offered to regular homebuyers seeking affordable payments on rising home prices and have been widely linked to the subprime mortgage and foreclosure crisis as the spiked payments became unaffordable to homeowners. It is important that you understand your adjustable note, especially if you are considering a loan modification or refiance. If seeking a loan modification understanding your adjustable note will help you tremendously to be in control of the new loan terms you may be seeking.

The section of your adjustable note which dictates the change in your rate is located on the "adjustable rider". You will not find the loans adjustment details on the main "adjustable note" portion. Similiar to the prepayment penalty rider, the "adjustable rider" is a separate document usually 1 to 2 pages long and spells out the details of the interest rate adjustment, such as how high your interest rate can go and at what rate it will be "capped". You rider should be located right behind your main adjustable note, so if you managed to get your hands on the note within the papers from your closing, the rider is certainly close by. Some adjustable riders are very nasty and can cause an interest rate to be capped in the double digits. The highest I've seen was a rate capped at 18%. Imaging paying on a rate of 6% or 7% and your loan's rate rises to 18%. This is what caused many home owners to go into foreclosure.

Now, the details that determine the cap on your loan's interest rate is important to understand because in some instances, your loan payment may actually go down depending on how your note rider is written. Your adjustable interest rate is a combination of the prevailing market "index" plus the "margin" that is stated on the rider. The margin is a term used to describe the percentage amount higher than the stated market index. Say what? The index is simply the performance tracker of the publically traded monetary instrument preferred by your lender. This "performance tracker" or index dictates the adjustment of your interest rate.

Let's take a crash course on Wall Street Financials 101. Your adjustable rider will flat out tell you what the particular market index is. It will probably tell you to pick up the Wall Street Journal to find the index affecting your adjustable rate. You really don't need the Wall Street Journal because any reliable financial website or periodical should have the information. But the rider will tell you specifically which index to look for.

This is important because the adjustment to your rate will be the cumulation of the rider's stated "margin" plus the "index". The index on an adjustable rider, most of the time, is the LIBOR or the (London InterBanking Offered Rate) and the margin stated on the rider can be anywhere between 1.5% and 6% above the index, sometimes higher. The LIBOR is the interest rate at which banks borrow money in Europe. In America the Federal Target Rate is the rate at which banks borrow money. Don't ask why a mortgage-backed security instrument in America is indexed off of the European banking system.

The rider may state that your interest rate may not exceed a certain stated amount after the adjustment. But back to figuring out what your rate will be. If you have a current interest rate before the adjustment of let's say 5%, and the margin stated on your rider is let's say is 2.% with the LIBOR index being 3%, then your new adjustable rate will be 2% higher than the LIBOR index of 3%. In this example your note rate will stay the same at 5%. Why? The adjustment is based on the margin (2%) plus the LIBOR index (3%) which keeps your rate at 5%.

Now you have to make sure you follow the correct LIBOR index. There are various LIBOR indexes such as the 3 month, 6 month, and 1 year LIBOR index. These are all maturity features which only matter if you are an investor. If your note rider states that the index is the 6 month LIBOR, then you must check the 6 month LIBOR at the time that your note rate is due to adjust. You would simply ad that specific 6 month LIBOR index percentage to your margin to figure out your rate. Let's take another example. Say hypothetically your current rate is 6% before the adjustment and your note adjustment margin is let's say 4%. You check the LIBOR index specified on the note rider and it's at 3%. When you add the margin of 4% to your rate of 6%, your new adjustable rate will be 10%. So in this example your interest rate would increase from 6% to 10% which would dramatically raise your payment.

Keep in mind that your adjustable rider may stipulate that the adjustment increase shall not be higher that a specified percentage amount. For example if in the preceding example the margin plus the index brings your interest rate to 10%, but the note rider restricts your adjustment to no higher that 2% on the first nad second increase period, then your first adjustment in this example would bring your rate to 8% factoring in the rider's 2% restriction on the rate increase.

Most notes will allow the rate to adjust every six months to a year upon the first adjustment, but usually no more that 3 years. So if you closed on an adjustable rate mortgage in let's say 2006 that had a temporary fixed rate period of 3 years, it will become adjustable in 2009. Your interest rate in this example will adjust every six months or year beginning in 2009, depending on what is specified in the rider. However, it will only continue to adjust for usually up to 3 years, which will end in 2012.

These are very important terms you should be familiar with before seeking out any kind of help. Let's take a final example that can actually reduce your note rate and your payment. Let's say your current rate before the adjustment is 7% and the margin stated on the rider is 2%. You check the LIBOR index specified on the rider and it's at 3%. Your 7% note rate will actually drop to 5% because adding the LIBOR index of 3% with the margin of 2% gives you the adjustable note rate of 5%. I have seen this happen several times, so before you start asking anyone to reduce your payment, make sure it's not already going to reduce on its own. Your rider again may stipulate that the note rate shall not be lower than a certain percentage. So both your increase and your decrease may be limited.

There are other market indexes which your rider may require you check, such as the MTA (Monthly Treasury Average) being one of them. The MTA index tracks the performance of the U.S. dollar (Treasury Bills). You should thoroughly review your rider for that information.