According to data from the popular real estate marketplace Zillow, the current average rate for 5-year adjustable-rate mortgages stands at 7.28%. If you're thinking about an Adjustable-Rate Mortgage (ARM) for purchasing a home, whether for personal residence or as an investment, this information is for you. We'll explore typical rates for a few ARM varieties, illustrate their mechanics, and discuss scenarios where this loan option might be suitable. A fixed-rate mortgage might be worth considering, despite being less popular than other options.
You can see the previous business day’s ARM rates report here.
Average ARM mortgage rates
As of October 7th, the latest Zillow data was reviewed by Fortune.
Fixed-rate vs. Adjustable-rate mortgages
Approximately 92% of all mortgages in the U.S. Are fixed-rate home loans. Residences. A fixed-rate mortgage offers the security of an unchanging interest rate throughout the life of the loan, in contrast to adjustable-rate mortgages (ARMs) which allow for rate fluctuations after an initial fixed period. Their uniformity makes them clearly attractive.
There are, however, instances where ARMs could be a viable option. Approximately 8% of borrowers opt for these loans due to perceived distinct benefits.
When an adjustable-rate mortgage might be a good choice
Three types of buyers often find ARMs beneficial:
- Should you anticipate moving within the next few years, an Adjustable-Rate Mortgage (ARM) could allow you to benefit from a lower starting interest rate. This approach is viable because you plan to sell the property before the initial fixed-rate period expires, thus avoiding any concerns about subsequent rate changes.
- Home flippers and landlords might utilize adjustable-rate mortgages (ARMs) to reduce initial expenses, subsequently selling the property or modifying rental income as interest rates fluctuate.
- When interest rates are high, adjustable-rate mortgages (ARMs) can present initial savings and potentially offer financial benefits down the line if the market shifts favorably.
How adjustable-rate mortgages work
Adjustable-rate mortgages (ARMs) generally offer an initial fixed interest rate for a set duration, commonly three, five, seven, or ten years, after which the rate becomes variable. The elements influencing ARM rates at the time of adjustments are:
- Adjustable-rate mortgage (ARM) interest rates are frequently linked to reference rates such as the Secured Overnight Financing Rate (SOFR). The U.S. Treasury publishes an updated SOFR daily, mirroring the expenses banks incurred overnight to secure funds.
- When determining the final rate for your adjustable-rate mortgage, lenders apply a margin, which is a fixed percentage, on top of the benchmark rate. This margin typically falls between 2% and 3.5%.
- Rate caps restrict how much interest rates can rise over set periods or for the loan's entire duration, such as initial adjustment limits and subsequent caps.
Typically, adjustable-rate mortgages (ARMs) are structured as 30-year loans. Common ARM structures are 5/1 and 10/6. The 5/1 structure involves a fixed interest rate for five years followed by yearly adjustments, while the 10/6 structure offers a fixed rate for ten years with adjustments occurring every six months. Additionally, 3/1, 7/1, and 10/1 ARMs are available.
Learn more: Understanding the Secured Overnight Financing Rate's potential impact on your mortgage.
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Refinancing from an ARM to a fixed-rate mortgage
Should your circumstances shift, you may well be able to opt for a fixed-rate mortgage. Consider a scenario where you opt to remain in your residence for an extended period beyond your initial expectations.
Many Millennial and Gen Z homeowners are in the same boat, unable to afford upgrades and getting by with their starter homes.
Similar to switching from one fixed-rate mortgage to another, typically to secure a more favorable interest rate or access home equity, moving from an adjustable-rate mortgage (ARM) to a fixed-rate loan requires comparing offers from various lenders and submitting necessary documentation. To demonstrate your compliance with their criteria, and settling your outstanding mortgage.
Pros and cons of adjustable-rate mortgages
Before you apply for an ARM, it's important to consider both its advantages and disadvantages. Collaborating with a reliable loan officer can assist you in confirming if this loan option is truly suitable for your needs. Here are some fundamental points to keep in mind.
Pros
- For the initial fixed term, an adjustable-rate mortgage might provide a lower interest rate compared to a fixed-rate loan.
- Certain individuals seeking loans might discover that an adjustable-rate mortgage is a more accessible option for them compared to a fixed-rate product.
- While not a certainty, a reduction in your monthly payment may occur if market interest rates fall during adjustment periods.
Cons
- Market conditions directly influence how long adjustments take. Your monthly payment, like your rate, could potentially increase.
- Navigating the complexities of certain terms can complicate the process of finding a favorable rate on an adjustable-rate mortgage (ARM) when compared to more standard fixed-rate loan options.
- With a fixed-rate mortgage, the interest rate you secure remains constant for the entire duration of your loan. This offers greater monthly payment predictability, although adjustments to elements like homeowner's insurance premiums or HOA fees may still occur. Adjustable-rate mortgages require a degree of comfort with potential risk.