What Is a 5/1 Adjustable-Rate Mortgage (ARM)?

Hypothetical Example of a 5/1 ARM Loan

Here’s what your monthly principal and interest payments might look like if rates rise after the 5-year fixed period for a 30-year 5/1 ARM:

Hypothetical example for illustrative purposes only; not a commitment to lend or an offer of currently available terms. Rates, payments, terms, and savings shown are hypothetical figures selected solely to illustrate how mortgage costs and terms can vary, and do not reflect an actual loan offer.

• Loan amount: $325,000
• Initial interest rate: 5.75% 
• Rate caps: 2/3/5
• Years 1–5: $1,897 (initial fixed payment)
• Year 6: $2,277 (possible new payment at the first allowed increase)
• Maximum (lifetime cap): $2,888 (highest possible payment if rates hit the lifetime cap beginning in year 7)

Rate caps don’t just limit increases. They also limit how much your rate can go down. So, in this example, your monthly payment increases alongside the hypothetical interest rate. But if interest rates fall, so does your payment, but no more than the 2/3/5 caps, down to the lifetime floor, which for most ARMs, is equal to the loan's margin.  

When Is a 5/1 Adjustable-Rate Mortgage a Good Fit?

A 5/1 ARM can be a great solution for those looking for more affordable payments at first. However, it’s important to consider all the potential pros and cons in case an alternative loan better targets your homeownership goals.

Pros of a 5/1 ARM

Some potential advantages of 5/1 adjustable-rate mortgages include:

• Lower payments at the beginning: The fixed rate for the first five years of a 5/1 ARM is typically lower than other mortgage types, resulting in lower initial monthly payments.
• Benefits for short-term homeowners: If you plan to refinance your mortgage or sell your home before the five-year fixed period ends, you can still take advantage of the lower initial rate.
• Potential for savings down the road: Interest rates don’t always increase. Sometimes, they decline or stay the same. If they decrease after the fixed period, your mortgage payments will likely be lower.

Cons of a 5/1 ARM

Possible drawbacks of 5/1 ARMs worth considering include:

• Risk of increasing rates: After the fixed period, your interest rate and monthly payments could increase substantially.
• More expensive overall costs: You could end up paying more over the loan’s term if interest rates continue to increase. This could result in paying more in total than you would with a fixed-rate mortgage.
• Refinancing risk: Even if you plan to refinance before the fixed period ends, there’s no guarantee it’ll be advantageous, especially if rates, home values, or your credit and income situation have changed for the worse.

Requirements for a 5/1 ARM Loan

If you think a 5/1 ARM is the right type of mortgage for you, there are some requirements and other considerations to keep in mind:

• Loan type: Not all types of mortgages can be 5/1 ARMs, and those that can have their own specific requirements to fulfill.
• Credit score and income: Lenders have varying credit score and income requirements, all designed to ensure you can handle the mortgage payments, even if they increase with a rate hike. At Freedom Mortgage, we typically look for a score of 620 or higher for conventional loans and at least 550 score for FHA loans.
• Down payment: Depending on the type of loan you get, you will likely need a down payment of at least 3.5%–5% of the purchase price. If you can afford to, and would like to lower your monthly payment, you can also make a larger down payment than the required amount.
• Debt-to-income ratio (DTI): DTI requirements vary by lender and loan program but  a ratio of 43% or less is a common guideline.

Alternatives to 5/1 ARMs

Whether a 5/1 ARM is the best mortgage for you depends on your budget, goals, and how long you plan to stay in the home. There are other mortgage options that could be a better fit.

• Other adjustable-rate mortgage types: 7/1 ARMs and 10/1 ARMs offer longer fixed periods than 5/1 ARMs, which may be a better match for your timeline and situation.
• Fixed home loans: Fixed-rate loans can be 15- or 30-year mortgages, like ARMs, but the main difference is that you can enjoy more predictable payments for the life of the loan.

5/1 ARM FAQs

Still have questions about 5/1 ARMs? Here are answers to help you better understand these mortgages.

Is a 5/1 ARM a 30-Year Mortgage?

Most, though not all, adjustable-rate mortgages are 30-year loans. With a 5/1 ARM, you’d have a fixed rate for the first five years, and an adjustable rate for the remaining 25 years of the loan term, unless you sell or refinance before then.

Can You Refinance out of a 5/1 ARM?

Yes, you can typically refinance out of a 5/1 ARM when desired, as long as you meet lender requirements. Many borrowers choose to refinance into a fixed-rate loan to lock in a relatively stable payment before the adjustable period begins.  However, it’s important to note that the rate you receive during a refinance is based on market conditions at the time of the refinance.  If rates have moved higher since you took out your ARM, your rate in a refinance may be higher.

Is It a Good Idea to Use a 5/1 ARM?

A 5/1 ARM can be a smart choice if you plan to sell or refinance before the fixed period ends, since you’ll benefit from a lower initial rate. It might also be a good idea if your income is expected to increase, making the potential for higher rates less of a concern.

If you want long-term stability and more predictable payments, however, a fixed-rate loan might be a better choice.

Final Thoughts: 5/1 Adjustable-Rate Mortgages

A 5/1 ARM is a unique type of loan that may be a good fit if you’re confident in your financial situation and comfortable with the potential risk of adjustable rates. And if you plan to sell or refinance your home before the fixed period ends, the lower initial interest rate of a 5/1 ARM could save you money during the first five years.

Whether your homebuying goals align with a 5/1 ARM or you’re more drawn to the stability that comes with fixed-rate mortgages, Freedom Mortgage is here to help you find the best loan for your situation. Ready to get started?