Adjustable Rate Mortgages (ARM)
Adjustable Rate Mortgages are a hot item right now. Realistic rates are anywhere from 1.95% on a 1 month Libor to 5.750% for a Jumbo 5/1 ARM. If you understand the market and are willing to take some risk....you may save thousands.
Key Benefits
- Lowest rate, now.
- Possible "debt to income ratio" qualifying benefits
- Lower payments
- Interest Only A.R.M.s of every type (I.O.)
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What Risk? It is the lowest rate I've ever heard!
Adjustable Rate Mortgages (ARM) begin with a start rate. For example, a 3/1 ARM may have a start rate of 4.375%. This includes a Margin of 2.250% (also called profit for the Bank). Then you must look at the "Caps". A "Cap" is the amount of rate an ARM can fluctuate in any specified amount of time. There are usually 3 Caps associated with each ARM rate. The description of the entire ARM deal would be..... 3/1 ARM @ 4.375% with 2/2/5 Caps.
A typical 3/1 ARM has a starting "fixed" rate for the first 36 months...hence the "3" in 3/1. Upon the 37th month, the loan makes a change. If the going mortgage index market rate is higher, then the ARM rate will adjust higher. If it is lower, then the ARM rate is lower. This change is predicated on the latest "index". The index is a type of investment that the loan will follow. Typically, a 1 year L.I.B.O.R. or 1 year Treasury Note. Let's all take a wild & crazy guess and assume that index rate will be higher in the future. The first "2" in 2/2/5 is the initial adjustment Cap. It says that the maximum your rate can move (up or down) is 2% higher on the very first change on the 37th month. The second "2" in 2/2/5 is the Cap on proceeding adjustments which typically take place every twelve or six months for the life of the loan. It can also "move" a maximum of 2% PER CHANGE. The third and final "5" in 2/2/5 is the savior for all those that have chose an ARM in the last few years. The "5" is the maximum your rate could ever be OVER your initial starting rate. The Federal Government says that this protects you in case of a lending disaster in the market.
Let's put this together now. I will first run a realistic scenario which I think may play out in the near future. Our start rate is at 4.375% on a 3/1 ARM with 2/2/5 Caps. 36 months go by and the new "index" is 4.5%. Now we must add the Margin (Profit). A 4.5% index plus Margin of 2.250% equals a rate of 6.75%. We started at 4.375% and have already hit 6.75% on the first change. But wait, we have Caps in place. The first Cap is max'd at 2%. Our rate is then saved and lowered to just 6.375% because that is exactly 2% higher than our start rate of 4.375%. Time goes on, twelve months go by. No real change in the market from last time. The index is still at 4.5%. Recalculating finds that your mortgage rate should be 6.75%, or 4.5% plus 2.250% margin. Because your rate was "saved" last time at 6.375% because of the Caps...it won't save you now. Your old rate of 6.375% is less than the rate at the next Cap of 6.75%. Your NEW and updated rate is now 6.75%. A few years go by and the index hits 5.25%. Let's add the margin of 2.250%.....your rate is now 7.5%. All this takes place in just 5.5 years. Legally your rate could hit 9.375% if the market goes that way.
Indices typically do not jump that high...though they could. The most predominant index is the L.I.B.O.R. It is about 1.86% right now. Historically it will sit and stay around 4.500%. It has been as high as 6.5% for a short stint.
ARM's are not a "save all, win all". The ARM should be treated with respect and you, as a borrower, should protect yourself by educating yourself on the terms and hidden "fine print" that other lenders will not mention....and may not understand themselves.
What would you do?
Most borrowers say "I'll refinance" or "I'll sell the house".
Simple two questions. If that previous ARM rate hit 7.5%, you can be quite certain that the going rate is hovering around 7.5%. What are you going to refinance at? 7.5%, 8.0% another 3/1 ARM at 6.875%....what?
Number two, who are you going to sell your house to...including "for what price".....AND where are you going to move? Don't forget that the rates are at least 7.0%. Everybody, including you, has gotten too comfortable with the 6.0% and lower thing....would this make the market have an incredible slow-down? Probably NOT in Arizona...but watch other markets, like Cleveland, Phili and California really get hit hard.
What should I do?
Unless you have lived in a cave for the past 8 years, you know that mortgage rates have been the lowest in at least 50 years.
You can receive a fixed rate TODAY and not have any of the worries above. The typical rate on a 30-year mortgage in the last 40 years is about 8.625%. Rates in the early 1980's were at 14%. Guess when the Government stepped in and put a "Cap" on Adjustable Rate Mortgages to hold off and tame foreclosures.
Just fill out the
,
there is no charge to apply, and you may just find the answer you are
looking for.