What Is a 5-1 Hybrid Adjustable-Rate Mortgage (5-1 Hybrid ARM)?
A 5-1 hybrid adjustable-rate mortgage (5-1 hybrid ARM) begins with an initial five-year fixed-interest rate, followed by a rate that adjusts on an annual basis. The "5" in the term refers to the number of years with a fixed rate, and the "1" refers to how often the rate adjusts after that.
Also known as a five-year fixed-period ARM, this mortgage features an interest rate that adjusts according to an index plus a margin. Hybrid ARMs are very popular with consumers, and most lenders offer at least one version of these loans, often the 5-1 Hybrid ARM.
Understanding Hybrid Adjustable-Rate Mortgages (5-1 Hybrid ARM)
The 5-1 hybrid ARM is the most popular type of adjustable-rate mortgage (ARM), but it's not the only option. There are 3-1, 7-1, and 10-1 ARMs as well. These loans offer an introductory fixed rate for three, seven, or 10 years respectively, after which they adjust annually.
In rare cases, there are also 5-5 and 5-6 ARMS, which feature a five-year introductory period followed by a rate adjustment every five years or every six months, respectively. 15-15 ARMs adjust once after 15 years.
Less common are 2-28 and 3-27 ARMs. With the former, the fixed interest rate applies for only the first two years, followed by 28 years of adjustable rates; with the latter, the fixed rate is for three years, with adjustments in each of the following 27 years. Some of these loans adjust every six months rather than annually.
[Important: Hybrid ARMs have a fixed interest rate for a set period of years, followed by an extended period during which rates are adjustable.]
Example of a 5-1 Hybrid Arm
Interest rates change based on their marginal rates when ARMs adjust along with the indexes to which they're tied. If a 5-1 hybrid ARM has a 3% margin and the index is 3%, it adjusts to 6%.
But the extent to which the fully indexed interest rate on a 5-1 hybrid ARM can adjust is often limited by an interest rate cap structure. The fully indexed interest rate can be tied to several different indexes, and while this number varies, the margin is fixed for the life of the loan.
- 5-1 Hybrid ARMs offer an introductory fixed rate for five years, after which the interest rate adjusts annually.
- Interest rates change based on their marginal rates when ARMs adjust and the indexes to which they're tied.
- Homeowners can often take advantage of lower mortgage payments during the introductory period.
Advantages and Disadvantages of a 5-1 Hybrid ARM
In most cases, ARMs offer lower introductory rates than mortgages with fixed interest rates. These loans can be ideal for buyers who plan to live in their homes for only a short period of time and sell before the end of the introductory period. The 5-1 Hybrid ARM also works well for buyers who plan to refinance before the introductory rate expires.
There's also a chance that the interest rate might decrease, lowering the borrower's monthly payments, when it adjusts. But in many cases, it goes up, increasing the borrower's monthly payments.
If a borrower takes out an ARM with the intention of getting out of the mortgage by selling or refinancing before the rate resets, personal finances or market forces might trap him in the loan, potentially subjecting him to a rate hike he can't afford.