How to Select the Home Mortgage That Is Right For You

If you are seeking to finance the cost of a new home, you may be faced with more than one home mortgage loan option, including those with various interest rates, payment terms and length. For those not versed in today’s home mortgage options, choosing the right mortgage to apply for may not be so easy.

How to Select the Home Mortgage That Is Right For You

In order to select the right mortgage loan for you, you will first want to have an idea how many years you plan to live in the home that you intend to purchase. A conventional fixed rate home mortgage is typically designed for someone who intends to live in a home for at least 10 years. The fixed rate home mortgage loan is the most popular of the home mortgage loan programs. With this style of loan, the interest rate remains the same for the entire life of the loan.

Another style of loan is the adjustable rate home mortgage, also known as an ARM loan. This option allows the interest to adjust based on current market rates, which means, one year the interest rate may be low and the next year it may be significantly higher. Check out my earlier posts for a complete explanation on how this type of mortgage works. Here’s part I and here’s part II.

An Interest Only home mortgage, is a type of loan that where the homeowner is permitted to make payments on the interest alone for a specified amount of time. After that time concludes, the payments are applied toward the principal balance of the loan.This type of loan will have significantly higher payments once the interest only period is concluded.

Balloon home mortgages offer smaller payments in the beginning, but come with a large payment due at the end of the loan. Be careful with this type of loan, as there will be one large payment due at the end of the loan, which in some cases may be the entire principal balance.

For any type of mortgage loan, make sure to steer clear of negative amortization.Check out my post on this subject for a full explanation of the risks of any mortgage loan that has this provision.

If you are planning to refinance your existing home or apply for a new home mortgage loan, a good lender or mortgage broker will help you select the best loan for your individual situation.For further information on any type of mortgage option, feel free to give me a call.

 

 

30 Year vs. 15 Year Mortgage, Which is Best?

Discussions of mortgages often focus on interest rates, but there is a much more basic decision to make. Should you go with a 30 year mortgage term or a 15 year mortgage term?

30 Year vs. 15 Year Mortgage, which is best?

Any discussion of mortgages tends to turn on two points. How can you qualify for the most money with the lowest payment, and how can you get the lowest interest rate for the mortgage? While these are two important issues, there is an additional one that people fail to consider, resulting in significant wasted money.

The term of a mortgage is extremely critical for a couple of reason. First, it sets the length of the obligation you are undertaking. Second, it defines the amount of interest you are going to pay over the life of the loan. These are huge issues when it comes to building equity, and deciding if a 15 or 30 year mortgage is best for you.

The longer the loan, the more total interest you are going to pay. The trade off, of course, is, you are going to have smaller monthly payments the farther you stretch out the obligation. While this may sound like a good goal when you first get the mortgage, it can backfire on you in the long run.

Most people focus on interest rates as a way to save money on morgetgas. This is a valid approach, but playing with the length of the loan is a better way to save money. If you can cut the payments in half by going with a shorter loan, you can save huge amounts on the total interest paid to a lender.

The decision on the term of the loan is relatively simple, but entirely dependent upon your personal situation. There is no absolute correct choice. First, you need to determine if you can comfortably afford the higher payments that come with a shorter term loan. In general, a 15 year mortgage will have monthly payments 20 to 25 percent higher than a 30 year loan.

If you can afford the higher payment, then that is the correct choice for you. By doing so, you will pay the loan off faster, and be building equity in the home quicker. However, if the monthly payment on a shorter term loan will stretch your budget, the more popular 30 year mortgage is best for you. Although you will pay more interest over the life of the mortgage, your monthly payment will be considerably lower.

If you do opt for the 30 year loan, make sure the mortgage has no prepayment penalty, allowing you to make extra payments toward the principal balance of your loan, which will not only reduce the total interest you pay over the life of the mortgage, but will also effectively reduce the remaining term of your loan.

If you would like me to run an amortization schedule for you that will show how much you will save by making extra payments toward your loan balance, please feel free to contact me.

Are Adjustable Rate Mortgages Worth It? Part II

In part one of this two part post, I talked about the benefits and drawbacks of adjustable rate mortgages (ARM), the safeguards built in to most ARMs.in the form of rate caps, and the dangers of negative amortization.

In this post, I would like to focus on a few things that you can do to help ensure you’re making the right decision and getting the best deal that you possibly can on your adjustable rate mortgage.

Shop Around:
Don’t go with the first offer you get. It may sound ridiculous that someone who is making what is often the biggest purchase of their life would jump at the first loan that’s offered to them. But first-time home buyers, who are sometimes surprised that they’ve been offered a loan, can be especially susceptible to this type of knee jerk reaction. Also, lenders who practice hard sell techniques, indicating that the loan rates could change at any moment, can pressure consumers into making quick, ill-advised decisions.

Make Sure You Know the Terms:
You may be thinking, “Of course someone would know the terms of a loan!” This isn’t always the case. When someone is ignorant of the terms of a mortgage, they either haven’t asked the right questions, or after asking a question and getting an answer, they don’t ask for clarification if they’re confused. You must ask questions, understand the answers thoroughly and ask for further explanation if needed.

Often information regarding an ARM is given in a simple sequence of three numbers, which may look something like this—3/1/6. In this example, you’re first given the initial cap change of 3, which is the maximum change allowed the first time the rate is adjusted. This maximum is often higher than subsequent changes. The second number represents the periodic change cap. This number, which in our example is 1, is the largest interest rate adjustment allowed during all other changes. The final figure is the life cap or the maximum adjustment that can be implimented during the term of the loan. In our example the life cap is 6, which is typically the highest amount you’ll see for a life cap on a first mortgage.

Ask Yourself “What if?”:
Taking the time to ask yourself this question and answering it honestly can save you a lot of heartache and money down the line, and help you determine if an adjustable rate mortgage is worth it to you. In other words, know the effect a 3 percent rise in the interest rate would have on your pocketbook in the first adjustment period. If you procure a loan with an interest rate that can be altered every six months, could you afford a big spike in the rate? Would your ability to pay and the security of your home be jeopardized by an upward trend in mortgage rates? Look at the actual numbers.

Let’s say you’re paying $602 dollars at 4% on an ARM that totals $126,000 and the loan goes to 7% in the first year. Your payment would then be $838 per month or $232 more each month and $2,784 more a year. Remember, that elevated amount only represents the difference in interest and does not include principal, which means suddenly you’re paying a lot more for your house than you intended. How much more? Over the course of a 30-year mortgage you will have paid more than $100,000 in additional interest! That is not a bargain.

Study Financial Trends:
To help you determine if an ARM makes sense for you, take some time and get the latest information on what is happening with interest rates. Study what’s occurred over the past 12 months and read up on what the experts are predicting. Check the index your potential lender uses to determine if rates will rise, fall or stay stable. Ask the lender what index they utilize to calculate if your mortgage payment will change. They should be able to tell you this and also inform you of the margin, which is the additional amount the lender adds to the index rate. It is usually from one to three points and is constant for the length of the loan. Study the index’s past performance to determine how stable it is and how often it changes. Some indexes will be adjusted monthly.

Consider a Less Expensive Home:
This is an option about which most people do not want to think. However, your first home does not have to be your last home. Buying a less expensive home at a fixed-rate can pay dividends in the next five to ten years. By paying more than interest on a loan, the homeowner benefits in two ways.

First, because the consumer is paying principal and not merely interest, they are slowly retiring the debt on the house, building equity and actually becoming the owner of the property. If the owner sells the home ten years down the road, he or she will realize a profit that can go towards the down payment for a bigger and better home.

A fixed-rate mortgage also allows you to benefit more from any appreciation in the property. If in ten years, you’ve paid $12,000 in principal on a home worth $100,000 and that same home rises in value by 3% per year, which is a negligible amount, then you would have a home that’s worth about $134,000 and a total gain of $46,000. Imagine how helpful that $46,000 would be in purchasing your dream home!

Try to think in the long term when it comes to home ownership. It can pay off in a very short amount of time, especially if you live in an area where property and home prices continue to escalate.

So, are adjustable rate mortgages worth it?
Although an Adjustable Rate Mortgage may look promising at first glance, it does have its pitfalls. When purchasing a home, carefully consider all of your options, do your homework and think about the future and what will be best for you and your family. An ARM may help you realize the American dream of home ownership; however, securing an adjustable rate mortgage under the wrong circumstances can turn that dream into a nightmare.

Are Adjustable Rate Mortgages Worth It? Part I

The Adjustable Rate Mortgage (ARM) has become a popular way for Americans to get more immediate bang for their buck when purchasing a home.The question is, are adjustable rate mortgages worth it?

For a long time ARMs, also known as flexible and variable rate mortgages, have been considered a good option for buyers who are looking to sell their home or refinance in 3 to 5 years. The theory being that the homeowner makes lower payments with little risk of the mortgage payment being adjusted during that short time period.

Because the monthly payment on an ARM is considerably lower than that on a traditional fixed-rate mortgage, a buyer can qualify to purchase more home than they could if they took out a loan with a fixed-rate.  For the potential homeowner, this looks like a very attractive proposal.

The primary drawback to an ARM is the fact that if you hold onto the mortgage long enough it is almost certain to go up. Although exact times for periods of adjustment are stated, exactly how much and how many times it will rise is relatively unpredictable.

Much of what happens with an ARM depends upon developments in financial markets. If the interest rate on an ARM rises enough, one could end up paying more per month on a variable rate loan than one would on a fixed-rate mortgage.

However, with an ARM there are some protections afforded the home buyer. Most ARMs have limits or caps on how much an interest rate may change both during the length of the loan and the pre-determined adjustment period.

The loan contract for an ARM will state how long the adjustment period will be. Commonly, lengths of time regarding interest changes are six months or one, three or five years. If a consumer secures a loan with a one-year period of adjustment, then the rate may be changed on a specified date only one time per year. Additionally, if you’re so inclined at a future date, a lender may allow the consumer to convert the ARM to a fixed-rate mortgage.

When adjustable rate mortgages are definitely not worth it:

A word of warning concerns ARMs and negative amortization. Amortization is the reduction of any debt as achieved through loan payments. If an ARM has a negative amortization clause it negates most of the benefits that a cap offers.

Negative amortization occurs when the monthly payment is capped and the interest rises to a point where a homeowner is no longer paying the full monthly interest on the loan. That difference, between what one pays and what one owes, is added to the mortgage balance, increasing the debt owed. Not all ARMs are set up this way and it’s best to avoid those that are.

The worst case scenario for an ARM occurs when the rates rise higher than the fixed-rate and negative amortization occurs. In essence, a consumer can find him or herself unable to make payments on a home that continues to accumulate debt, possibly to the point where more money is owed on the home than it is worth.

If, however, rates go down or remain the same and the consumer is able to lock in, convert to a fixed-rate, refinance or sell, then they come out ahead. Switching to a fixed-rate will raise the monthly payment considerably, since this type of loan involves paying principal too.

There are a few things that you can do to help ensure you’re making the right decision and getting the best deal that you possibly can on your mortgage.

More on that in Part II

 

Understanding the Risks of Negative Amortization Home Loans

While these loans can be a good deal when short-term interest rates are low, they are not necessarily the right choice when short term loans have a higher interest rate.

Negative amortization or “neg am” occurs when the minimum payment on a mortgage covers less than the monthly interest charged, causing the balance of the loan to increase instead of decrease. Interest Only Loans generally don’t increase the balance due on a home although they don’t diminish the amount due. However, deferred interest loans will increase your loan amount. This can happen with negative amortizations loans, like a Payment Option ARM, where payment choices can be calculated based on certain indexes used for these loans, giving you a variety of choices in payments. They are also known as “Pick a Payment Loans.” While these loans can be a good deal when short-term interest rates are low, they are not necessarily the right choice when short term loans have a higher interest rate.

If you are looking to eventually cash out home equity, you should look for a purchase loan that involves paying some of the principal. Not only is it possible you may not build equity in your home with neg am loans, you also may have a loss of equity through an increased mortgage balance. If you suddenly need to sell your home, you may not be able to get a purchase price high enough to cover your loan. You will also have more difficulty getting a second mortgage behind negative ARM loans.

On a deferred mortgage, the mortgage balance can increase as much as $350 per month for every $100,000 that’s borrowed. The neg am on a $500,000 loan for example, can be as much as $1,750 per month. While there are not many circumstances where I would recommend an Option ARM, there are a few instances where deferred interest or negative amortization loans may make sense.

Neg am loans are good for investment properties when you may be paying a double mortgage. They are also good for self-employed individuals with cash flow issues. If you plan on normally paying some of the principal, but don’t know what your cash flow will be like from month to month, it may be helpful to have the option of a minimum payment.

Do your homework before deciding on a deferred interest mortgage. Although your payments will be lower, there are inherent risks involved and you may be better off with a fixed-rate mortgage.

Adjustable Rate Mortgage Loans – Understanding the Basics

While an ARM has many benefits, there are other considerations to look at.

Adjustable rate mortgages (ARMs), developed when mortgage interest rates were high. It was and in some cases still is, a way to help you finance the purchase of a home with low interest rates. It is an ideal choice for those who expect their income to rise or plan to move in a couple of years. An ARM also increases your risk for higher payments. Fortunately, lenders also offer safeguards to limit some of your risk to excessively high interest rates.

ARM Features

An ARM starts with a low interest rate, up to 3% lower than a fixed rate mortgage. With lower rates, you usually qualify to borrow more than with a fixed rate home loan.

ARMs usually start with a fixed rate period and end with fluctuating yearly interest rates, increasing or decreasing your monthly payment. So a 3/1 ARM means 3 years of fixed rates, with interest rates changing every year after that. Interest rates are based on an index, usually the rate on the T-bill or LIBOR, and the margin the lender adds to the index.

ARM Safeguards

In order to protect borrowers from sky-rocketing monthly payments, mortgage lenders put in place safeguards. For example, a point cap limits how much interest rates can rise monthly and over the life of the loan. There are also floor limits on how low rates can go, protecting the lender.

Many lenders also allow you to convert your ARM to a fixed rate mortgage after a predetermined period.

ARM Considerations

While an ARM has many benefits, there are other considerations to look at. For example, interest rates can rise 5% or more over the course of your home loan. If you plan to stay in your home for several years, a fixed rate may offer lower interest costs in the long term. ARMs are also unpredictable, which makes planning long term financing goals difficult.

Before you apply for an ARM, make sure you are comfortable with the level of risk involved. However, if you expect your income to rise in the future or to move in the next few years, then you may be saving yourself a lot of money in interest payments with an ARM.

Basic Mortgage Terms You Should Know When Buying a House

Understanding these terms will allow you to avoid many of the pitfalls that exist in the real estate market

Educating yourself on the various mortgage terms you will run into will help you make better decisions when deciding which home you want to purchase. When you sign a mortgage contract, your home is used for collateral and it is your responsibility to make sure your payments are made on time each month.

The first term you should know is principal. The principal is basically defined as the amount of money you borrow for your home. Before the principal is provided you will need to make a down payment. A down payment is the percentage you will put towards the principal. The amount of the down payment will often depend on the cost of the home. Once you pay off the principal, the home is yours.

The next term you will need to know is interest. Interest is a percentage that you are charged to borrow a certain amount of money. Along with the interest rate, lenders may also charge you points. A point is a portion of the total funds financed. The principal and interest makes up the majority of your monthly payments, and this is a method that is called amortization. Amortization is the method by which your loan is reduced over a given period of time. Your payments for the first few years will cover the interest, while payments made later will be applied towards the principal.

A portion of your mortgage payments can be placed in an escrow account in order to go towards insurance, taxes, or other expenses. The next term you will hear a lot is taxes. Taxes are the amount of money that you have to pay to your state or government. When it comes to your home, these are known as property taxes. These taxes are used to build roads, schools, and other public projects. All homeowners must pay property taxes.

Insurance is another important term that you will hear in the real estate community. You will not be allowed to close on your mortgage if you don’t have insurance for your home. Home insurance covers your home against floods, fire, theft, or other problems. Unless you can afford to repair your home if it is damaged, it is usually a good idea to get insurance for your home. If your home is located within a zone that is known for having floods, federal laws may require you to have flood insurance.

If the down payment you put towards your home is less than 20% of the total value, you will often be charged additional premiums on your insurance by the lender. This is done to protect you in the event that you default on your loans and fail to make payments. Without this, many people would not be able to afford a house.

These are the basic terms you will need to know before your purchase a home. Understanding these terms will allow you to avoid many of the pitfalls that exist in the real estate market. You want an interest rate that is low, and you should always try to get a fixed interest rate if possible. This will allow you to focus your income on making payments towards the principal, and this will help you pay off the loan faster. A mortgage is an important part of your financial picture, and you want to make sure you pick a home that you can afford. If you fail to make your payments, you may lose your house.