The most common type of mortgage program
where your monthly payments for interest and principal never change.
Property taxes and homeowners insurance may increase, but generally your
monthly payments will be very stable.
Fixed-rate mortgages are available for 30
years, 20 years, 15 years and even 10 years. There are also "bi-weekly"
mortgages, which shorten the loan by calling for half the monthly payment
every two weeks. (Since there are 52 weeks in a year, you make 26 payments,
or 13 "months" worth, every year.)
Fixed rate fully amortizing loans have two
distinct features. First, the interest rate remains fixed for the life of
the loan. Secondly, the payments remain level for the life of the loan and
are structured to repay the loan at the end of the loan term. The most
common fixed rate loans are 15 year and 30 year mortgages.
During the early amortization period, a large
percentage of the monthly payment is used for paying the interest . As the
loan is paid down, more of the monthly payment is applied to principal . A
typical 30 year fixed rate mortgage takes 22.5 years of level payments to
pay half of the original loan amount.
These loans generally begin with an interest
rate that is 2-3 percent below a comparable fixed rate mortgage, and could
allow you to buy a more expensive home.
However, the interest rate changes at
specified intervals (for example, every year) depending on changing market
conditions; if interest rates go up, your monthly mortgage payment will go
up, too. However, if rates go down, your mortgage payment will drop also.
There are also mortgages that combine aspects
of fixed and adjustable rate mortgages - starting at a low fixed-rate for
seven to ten years, for example, and then adjusting to market conditions.
Ask your Watson Mortgage Loan Originator about these and other special kinds
of mortgages that fit your specific financial situation
Most adjustable rate loans (ARMs) have a low
introductory rate or start rate, some times as much as 5.0% below the
current market rate of a fixed loan. This start rate is usually good from 1
month to as long as 10 years. As a rule the lower the start rate the shorter
the time before the loan makes its first adjustment.
Index - The index of an ARM is the financial
instrument that the loan is "tied" to, or adjusted to. The most common
indices or, indexes are the 1-Year Treasury Security, LIBOR (London
Interbank Offered Rate), Prime, 6-Month Certificate of Deposit (CD) and the
11th District Cost of Funds (COFI). Each of these indices move up or down
based on conditions of the financial markets.
Margin - The margin is one of the most
important aspects of ARMs because it is added to the index to determine the
interest rate that you pay. The margin added to the index is known as the
fully indexed rate. As an example if the current index value is 5.50% and
your loan has a margin of 2.5%, your fully indexed rate is 8.00%. Margins on
loans range from 1.75% to 3.5% depending on the index and the amount
financed in relation to the property value.
Interim Caps - All adjustable rate loans
carry interim caps. Many ARMs have interest rate caps of six-months or a
year. There are loans that have interest rate caps of three years. Interest
rate caps are beneficial in rising interest rate markets, but can also keep
your interest rate higher than the fully indexed rate if rates are falling
rapidly.
Payment Caps - Some loans have payment caps
instead of interest rate caps. These loans reduce payment shock in a rising
interest rate market, but can also lead to deferred interest or "negative
amortization". These loans generally cap your annual payment increases to
7.5% of the previous payment.
Lifetime Caps - Almost all ARMs have a
maximum interest rate or lifetime interest rate cap. The lifetime cap varies
from company to company and loan to loan. Loans with low lifetime caps
usually have higher margins, and the reverse is also true. Those loans that
carry low margins often have higher lifetime caps.
A reverse mortgage is a special type of loan
made to older homeowners to enable them to convert the equity in their home
to cash to finance living expenses, home improvements, in-home health care,
or other needs.
With a reverse mortgage, the payment stream
is "reversed." That is, payments are made by the lender to the borrower,
rather than monthly repayments by the borrower to the lender, as occurs with
a regular home purchase mortgage.
A reverse mortgage is a sophisticated
financial planning tool that enables seniors to stay in their home -- or
"age in place" -- and maintain or improve their standard of living without
taking on a monthly mortgage payment. The process of obtaining a reverse
mortgage involves a number of different steps.
The first, most widely available reverse
mortgage in the United States was the federally-insured Home Equity
Conversion Mortgage (HECM), which was authorized in 1987.
A reverse mortgage is different from a home
equity loan or line of credit, which many banks and thrifts offer. With a
home equity loan or line of credit, an applicant must meet certain income
and credit requirements, begin monthly repayments immediately, and the home
can have an existing first mortgage on it. In addition, there is no
restriction on the age of borrowers.
In general, reverse mortgages are limited to
borrowers 62 years or older who own their home free and clear of debt or
nearly so, and the home is free of tax liens.
Borrowers usually have a choice of receiving
the proceeds from a reverse mortgage in the form of a lump-sum payment,
fixed monthly payments for life, or line of credit. Some types of reverse
mortgages also allow fixed monthly payments for a finite time period, or a
combination of monthly payments and line of credit. The interest rate
charged on a reverse mortgage is usually an adjustable rate that changes
monthly or yearly. However, the size of monthly payments received by the
senior doesn't change.
Some reverse mortgage products also involve
the purchase of an annuity that can assure continued monthly income to the
senior homeowner even after they sell the home.
The size of reverse mortgage that a senior
homeowner can receive depends on the type of reverse mortgage, the
borrower's age and current interest rates, and the home's property value.
The older the applicant is, the larger the monthly payments or line of
credit. This is because of the use of projected life expectancies in
determining the size of reverse mortgages.
Seniors do not have to meet income or credit
requirements to qualify for a reverse mortgage.
Unlike a home purchase mortgage or home
equity loan, a reverse mortgage doesn't require monthly repayments by the
borrower to the lender. A reverse mortgage isn't repayable until the
borrower no longer occupies the home as his or her principal residence.
This can occur if the sole remaining borrower
dies, the borrower sells the home, or the borrower moves out of the home,
say, to a nursing home.
The repayment obligation for a reverse
mortgage is equal to the principal balance of the loan, plus accrued
interest, plus any finance charges paid for through the mortgage. This
repayment obligation, however, can't exceed the value of the home.
The loan may be repaid by the borrower or by
the borrower's family or estate, with or without a sale of the home. If the
home is sold and the sale proceeds exceed the repayment obligation, the
excess funds go to the borrower or borrower's estate. If the sales proceeds
are less than the amount owed, the shortfall is usually covered by insurance
or some other party and is not the responsibility of the borrower or
borrower's estate. In general, the repayment obligation of the borrower or
borrower's estate can't exceed the value of the property.
In general, a borrower can't be forced to
sell their home to repay a reverse mortgage as long as they occupy the home,
even if the total of the monthly payments to the borrower exceeds the value
of the home.
LIBOR is the rate on dollar-denominated
deposits, also know as Eurodollars, traded between banks in London. The
index is quoted for one month, three months, six months as well as one-year
periods.
LIBOR is the base interest rate paid on
deposits between banks in the Eurodollar market. A Eurodollar is a dollar
deposited in a bank in a country where the currency is not the dollar. The
Eurodollar market has been around for over 40 years and is a major component
of the International financial market. London is the center of the
Euromarket in terms of volume.
The LIBOR rate quoted in the Wall Street
Journal is an average of rate quotes from five major banks. Bank of America,
Barclays, Bank of Tokyo, Deutsche Bank and Swiss Bank.
The most common quote for mortgages is the
6-month quote. LIBOR's cost of money is a widely monitored international
interest rate indicator. LIBOR is currently being used by both Fannie Mae
and Freddie Mac as an index on the loans they purchase.
LIBOR is quoted daily in the Wall Street
Journal's Money Rates and compares most closely to the 1-Year Treasury
Security index.
Balloon loans are short term mortgages that
have some features of a fixed rate mortgage. The loans provide a level
payment feature during the term of the loan, but as opposed to the 30 year
fixed rate mortgage, balloon loans do not fully amortize over the original
term. Balloon loans can have many types of maturities, but most balloons
that are first mortgages have a term of 5 to 7 years.
At the end of the loan term there is still a
remaining principal loan balance and the mortgage company generally requires
that the loan be paid in full, which can be accomplished by refinancing.
Many companies have other options such as a conversion feature at the end of
the term. For example, the loan may convert to a 30 year fixed loan at the
thirty year market rate plus 3/8 of a percentage point. Your conversion can
be guaranteed based on certain criteria such as having made your last 24
payments on time. The balloon mortgage program with the conversion option is
often called a 7/23 Convertible or 5/25 Convertible.
The most common buy down is the 2-1 buy down.
In the past, for a buyer to secure a 2-1 buy down they would pay 3 points
above current market points in order to pay a below market interest rate
during the first two years of the loan. At the end of the two years they
would then pay the old market rate for the remaining term.
As an example, if the current market rate for
a conforming fixed rate loan is 8.5% at a cost of 1.5 points, the buy down
gives the borrower a first year rate of 6.50%, a second year rate of 7.50%
and a third through 30th year rate of 8.50% and the cost would be 4.5
points. Buy down costs were usually paid for by a transferring company
because of the high points associated with them.
In today's market, mortgage companies have
designed variations of the old buy downs rather than charge higher points to
the buyer in the beginning they increase the note rate to cover their yields
in the later years.
As an example, if the current rate for a
conforming fixed rate loan is 8.50% at a cost of 1.5 points, the buy down
would give the buyer a first year rate of 7.25%, a second year rate of 8.25%
and a third through 30th year rate of 9.25% , or a three-quarter point
higher note rate than the current market and the cost would remain at 1.5
points.
Another common buy down is the 3-2-1 buy down
which works much in the same ways as the 2-1 buy down, with the exception of
the starting interest rate being 3% below the note rate. Another variation
is the flex-fixed buy down programs that increase at six month interval
rather than annual intervals.
As an example, for a flex-fixed jumbo buy
down at a cost of 1.5 points, the first six months rate would be 7.50%, the
second six months the rate would be 8.00%, the next six months rate would be
8.50%, the next six months rate would be 9.00%, the next six months the rate
would be 9.50% and at the 37th month the rate would reach the note rate of
9.875% and would remain there for the remainder of the term. A comparable
jumbo 30 year fixed at 1.5 points would be 8.875%.
The 11th District Cost of Funds is more
prevalent in the West and the 1-Year Treasury Security is more prevalent in
the East. Buyers prefer the slowly moving 11th District Cost of Funds and
investors prefer the 1-Year Treasury Security.
The monthly weighted average Eleventh
District has been published by the Federal Home Loan Bank of San Francisco
since August 1981. Currently more than one half of the savings institutions
loans made in California are tied to the 11th District Cost of Funds (COF)
index.
The Federal Home Loan Bank's 11th District is
comprised of saving institutions in Arizona, California and Nevada.
Few people who use and follow the 11th
District Cost of Funds understand exactly how it is calculated, what it
represents, how it moves and what factors affect it.
The predecessor to the 11th District Cost of
Funds index was the District semiannual weighted average cost of funds
published for a six month period ending in June and December. The San
Francisco Bank was the first Federal Home Loan Bank to publish a monthly
cost of funds index.
The funds used as a basis for the calculation
of the 11th District Cost of Funds index are the liabilities at the District
savings institutions money on deposit at the institutions, money borrowed
from a Federal Home Loan Bank (known as advances) and all other money
borrowed. The interest paid on these types of funds is the cost of these
funds.
The ratio of the dollar amount paid in
interest during the month to the average dollar amount of the funds for that
month constitutes the weighted average cost of funds ratio for that month.
The average cost of funds is said to be
weighted because the three kinds of funds and their costs are added together
before a ratio is computed rather than calculating averages individually for
the three sources and using a simple average of the three ratios. This gives
the greatest weight to the interest paid on deposits, and explains the
delayed reaction of the index to rising fixed-rate mortgages.
The GPM is another alternative to the
conventional adjustable rate mortgage, and is making a comeback as borrowers
and mortgage companies seek alternatives to assist in qualifying for home
financing
Unlike an ARM, GPMs have a fixed note rate
and payment schedule. With a GPM the payments are usually fixed for one year
at a time. Each year for five years the payments graduate at 7.5% - 12.5% of
the previous years payment.
GPMs are available in 30 year and 15 year
amortization, and for both conforming and jumbo loans. With the graduated
payments and a fixed note rate, GPMs have scheduled negative amortization of
approximately 10% - 12% of the loan amount depending on the note rate. The
higher the note rate the larger degree of negative amortization. This
compares to the possible negative amortization of a monthly adjusting ARM of
10% of the loan amount. Both loans give the consumer the ability to pay the
additional principal and avoid the negative amortization. In contrast, the
GPM has a fixed payment schedule so the additional principal payments reduce
the term of the loan. The ARMs additional payments avoid the negative
amortization and the payments decrease while the term of the loan remains
constant.
The scheduled negative amortization on a GPM
differs depending on the amortization schedule, the note rate and the
payment increases of the loan. GPM loans with 7.5% annual payment increases
offer the lowest qualifying rate but the largest amount of negative
amortization.
On a loan of $150,000, with a 30 year
amortization and a note rate of 10.50% with 12.5% annual payment increases,
the negative amortization continues for 60 months. The qualifying rate is
5.75% and the negative amortization is 11.34% (approximately $17,010).
The note rate of a GPM is traditionally .5%
to .75% higher than the note rate of a straight fixed rate mortgage. The
higher note rate and scheduled negative amortization of the GPM makes the
cost of the mortgage more expensive to the borrower in the long run. In
addition, the borrowers monthly payment can increase by as much as 50% by
the final payment adjustment.
The lower qualifying rate of the GPM can help
borrowers maximize their purchasing power, and can be useful in a market
with rapid appreciation. In markets where appreciation is moderate, and a
borrower needs to move during the scheduled negative amortization period
they could create an unpleasant situation.
There isn't a single or simple answer to this
question. The right type of mortgage for you depends on many different
factors
Your current financial picture.
How you expect your finances to change.
How long you intend to keep your house.
How comfortable you are with your
mortgage payment changing.
For example, a 15-year fixed-rate mortgage
can save you many thousands of dollars in interest payments over the life of
the loan, but your monthly payments will be higher. An adjustable rate
mortgage may get you started with a lower monthly payment than a fixed-rate
mortgage -- but your payments could get higher when the interest rate
changes.
The best way to find the "right" answer is to
discuss your finances, your plans and financial prospects, and your
preferences frankly with a Watson Mortgage Loan Originator. |
