Quick Introduction to 5/1 ARM Mortgages
The 5/1 ARM is the most popular type of adjustable-rate mortgage. Homeowners with 5/1 adjustable-rate mortgages have interest rates that don’t change for the first 60 months. After that initial five-year period, interest rates can either increase or decrease once every 12 months.
National Mortgage Rates
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5/1 Adjustable-Rate Mortgage Rates
Like 7/1 ARMs and 10/1 ARMs, 5/1 ARMs are hybrid mortgages. That means that they combine some of the features of fixed-rate and adjustable-rate mortgages.
If you’re planning to apply for a mortgage, you’ll find that 5/1 ARM rates are lower than the rates attached to standard fixed-rate mortgages, at least within the first five years of the loan term.
Historical 5/1 ARM Rates
5/1 ARM mortgage rates have fallen since the mid-2000s. In 2006, the average annual 5/1 ARM rate was 6.08%. Four years later, in 2010, the annual 5/1 adjustable-rate mortgage rate was 3.82%, on average. Annual mortgage rates for 5/1 ARMs haven’t been higher than 3% since 2011. As of June 2016, the average mortgage rate for 5/1 ARMs was 2.94%.
5/1 Adjustable-Rate Mortgage Rates
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After the 60-month period of fixed interest rates, homeowners with 5/1 ARMs end up with fully indexed interest rates. These rates are based on a mortgage index like the Monthly Treasury Average (MTA) or the 11th District Cost of Funds Index (COFI).
Mortgage rates for 5/1 ARMs also depend on a margin, which determines how much a homebuyer’s interest rate differs from the index rate. While the index rate varies, the margin is typically set at the beginning of the loan term and remains the same over the life of the loan.
How 5/1 ARM Rates Stack Up Against Other Mortgage Rates
If you want access to low mortgage rates (and lower monthly mortgage payments), your best bet might be to look at rates for adjustable-rate mortgages like 5/1 ARMs. Rates for these kinds of loans are typically lower than the rates for 15-year or 30-year fixed-rate mortgages, at least initially.
After the first five years of the loan term, rates become fully indexed interest rates that adjust annually. In many cases, interest rates increase and the new rate can be as much as 5% or 6% higher than the initial rate. Hybrid adjustable-rate mortgages like 5/1 ARMs tend to come with 30-year loan terms, but homeowners have the option of refinancing or selling their homes before the fixed-rate introductory period ends.
5/1 ARM Rate Caps
While 5/1 adjustable-rate mortgages have interest rates that can fluctuate from one year to the next, they often have interest rate caps that prevent rates from spiraling out of control. Even if your interest rate increases, it will never surpass a certain threshold if there’s a rate cap. That’s a good thing, since having a higher interest rate means that you’ll be sending your lender more money every month. It’s a good idea to make sure that the highest rate mentioned in your contract fits into your budget, so you don’t have trouble paying it if the rate goes that high.
There could be as many as three different caps associated with your 5/1 ARM. Your initial interest rate cap could limit the degree to which the interest rate rises when the fixed-rate period expires. A periodic interest rate cap could limit how high the interest rate climbs once every year. Finally, a lifetime rate cap could place a restriction on how high an interest rate can rise over the entire loan term.
5/1 ARM Rate Quotes
If you’re interested in getting a 5/1 ARM, it’s best to shop around for rates before committing to any particular lender. Many websites offer free mortgage rate quotes, or estimates of the mortgage rates that you’re eligible for. Once you provide details such as your credit score, the home purchase price that you’re aiming for, the down payment you can afford to make and the area where you want the home to be located, you’ll receive a list of mortgage rate quotes.
As you’re comparing quotes, it’s a good idea to focus on more than just the estimated total mortgage payment. You’ll also need to compare APRs (which take both the interest rate and fees into account to give you the yearly cost of taking on a 5/1 ARM) and the total estimated cost of fees, including closing costs.
In addition to looking at the information included in your mortgage rate quotes, it’s best to find out as much as you can about interest rate caps. That way, you’ll have a better idea of how high the interest rate on a particular 5/1 ARM can go. If the maximum interest rate is too high, you could have trouble keeping up with your mortgage payments down the road.
How to Get the Lowest 5/1 ARM Rates
By choosing a 5/1 ARM, you’ll likely have a lower introductory mortgage rate and a lower monthly mortgage payment than the homeowners taking on standard fixed-rate mortgages. But if you want the best interest rate, you’ll need to show your lender that you aren’t a risky borrower. That means you’ll need to have a low debt-to-income ratio (the amount of debt you’re paying off relative to your monthly gross income), a high credit score, a stable source of income and enough cash savings to cover at least two mortgage payments.
Each lender will have his or her own set of criteria that you’ll have to meet. Even if the interest rate he or she offers you is higher than you’d like it to be, you can try to reduce it by paying for discount points. One mortgage point can lower your mortgage rate by anywhere from 0.125% to 0.25%.
Besides buying points, you could also reduce the cost of taking on a 5/1 ARM by putting down more money or finding out if your seller is willing to pay for some of your closing costs. For conventional mortgage loans, many homebuyers are expected to make at least a 20% down payment. As an alternative, you could find out whether you can get a 5/1 ARM through the Federal Housing Administration, since you might be able to get a home with making a low down payment (that’s as little as 3%), in exchange for paying private mortgage insurance.
Taxes and 5/1 ARMs
Many homeowners who pay mortgage interest qualify for a mortgage interest deduction. If you’re willing to itemize your deductions (instead of taking the standard deduction), you could write-off mortgage interest that you paid on a mortgage loan amount of $1 million or less. You could also deduct mortgage interest that you paid on up to $100,000 of home equity loan debt.
Just remember that if you aren’t spending a lot of money on mortgage interest, you won’t be able to deduct much money when tax time rolls around. Fortunately, there are other tax breaks that you might be able to qualify for.
Refinancing Your 5/1 ARM
Refinancing your 5/1 hybrid ARM before the end of the 60-month fixed-rate term might be a good idea, especially if mortgage rates are low at the time and you’re afraid that they could go up in the future. But keep in mind that refinancing comes at a cost. In addition to having to apply for a refinance loan and complete a lot of paperwork, you’ll have to pay for closing costs again (even if they are rolled into your refinanced mortgage, you are still paying them). If your credit score’s not in good shape or you can’t afford to pay for the fees that go along with refinancing, you might need to look into other options.
Anyone with a traditional fixed-rate mortgage with a 15-year or 30-year term can consider refinancing into a 5/1 adjustable-rate mortgage program. This could be a good idea for anyone who isn’t planning to stay in their home for a long time before moving or retiring. It could also be appealing to someone with a jumbo loan (a mortgage with a loan amount that’s higher than the conforming loan limit - $417,000 for most of the country) who wants to keep their mortgage payments low. Just know that by getting an adjustable-rate mortgage, you run the risk of having a high interest rate in the future so it’s important to be sure you will be able to afford it now and later.
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Big Cities with the Healthiest Housing Markets
With SmartAsset’s interactive Healthy Housing Markets map, you can locate the healthiest housing markets among America's largest cities. Search for the overall healthiest markets or look specifically at one of our four healthy-housing indicators: stability, risk, ease of sale and affordability. Hover over a city or state to get more information.
|Rank||City||Average Years Living in Home||Avg. Homes with Negative Equity||Homes Decreasing in Value||Avg. Days on Market||Home Costs as % of Income|
Methodology A healthy housing market is both stable and affordable; homeowners in a healthy market should be able to easily sell their homes, with a low risk of losing money over the long run. So, in order to find the big cities* with the healthiest housing markets in the country, we considered the following four factors: stability, affordability, fluidity and risk of loss.
We measured stability with two equally weighted indicators: the number of years people remain in their homes and the percentage of homeowners with negative equity (as homeowners with negative equity are more likely to go into foreclosure). To account for our second factor, risk, we used the percentage of homes that decreased in value. To determine housing market fluidity, we looked at data on the average time a for-sale home in each area spends on the market - the longer it takes to sell, the less fluid the market. Finally, we calculated affordability as the monthly cost of owning a home as a percentage of household income in each county and city.
Affordability accounted for 40% of the housing health index, while each of the other three factors accounted for 20%. When data on the above four factors was unavailable for cities, we excluded these from our final rankings of healthiest markets.
Sources: US Census Bureau 2015 American Community Survey, Zillow
*For this study we looked at the 100 biggest U.S. cities by population with available data