Teaser Loan - Definition

A teaser loan can refer to any loan that offers a teaser rate of interest. Teaser loans can be a popular promotional loan product that entices a broad array of borrowers. Having the flexibility to offer a teaser rate can increase the customization and structuring options for all types of loans.

Credit cards with 0% introductory rates are some of the most common teaser loans. Adjustable rate mortgages (ARMs) also use teaser rates to structure loans in various ways to appeal to a variety of borrowers. Here is a closer look at how each of these teaser loans works.

Credit Cards

Credit cards that come with 0% introductory teaser rates are among the most popular products on the market. These loans will offer borrowers a maximum credit limit for borrowing with no interest charged throughout an introductory period, typically for approximately one year. Credit cards have simple teaser rate structuring. With a teaser rate credit card, the 0% interest rate applies for a specified period of time and then a standard rate detailed in the credit agreement—the annual percentage rate (APR)—begins to take effect.

Borrowers will sometimes apply for a credit card with a 0% introductory teaser rate with the goal of paying off debt from higher-interest-rate credit cards. The teaser rate provides them with a specified period in which to clear the debt, without paying interest, before a standard rate (usually the prime rate plus an additional percentage that may be based on the borrower's credit score) starts.

Adjustable rate mortgages can use teaser rates in a few different ways. Some ARM mortgages will begin with the teaser rate, which is a low promotional interest rate. This rate can be charged during all or a portion of the fixed rate part of the mortgage. Some adjustable rate mortgages may also use variations of teaser rates in the variable portion of the loan. One example includes the payment options in a payment option ARM. In a payment option ARM the borrower can choose among multiple payment choices each month, even opting to pay a lower amount (although his or her debt may still increase). Oftentimes one of these choices will be a payment which includes the teaser rate of interest.

Adjustable rate mortgages also have the flexibility to structure a loan with interest rate caps that can also integrate the teaser rate concept. These loans will typically be structured as either a 2-2-6 or a 5-2-5. These quotes refer to the incremental increases that can apply at various times during the loan.

Teaser loans with low interest rates can help borrowers save considerable amounts of money on interest costs. However, borrowers must also be aware of the rates that will apply after a teaser rate expires. They should clearly understand the payment terms and requirements detailed in their loan contract before agreeing to a teaser loan’s terms.