Are you ARMed?

January 06th, 2011

Many home buyers during the expanding housing bubble chose adjustable rate mortgages (ARMs) to purchase their new homes. Popular loans included option ARMs that provided you with several payment options and the interest rate would adjust monthly. Hybrid ARMs had a fixed rate for 3, 5, 7 or 10 years and after the initial fixed rate period your mortgage reset into an ARM with your payments and mortgage rate adjusting either every six months or annually. As the housing bubble burst and foreclosures began to mount nationwide the media focused on ARMs as a primary cause of the crisis.

But holders of ARMs know that during this period they have benefited from much lower rates, and payments, than their neighbors in fixed rate mortgages. As conventional and FHA mortgage rates have declined precipitously in the past several years, so too have short-term rates upon which ARM rates and payments are based. Because of this homeowners with ARMs are paying interest rates as low as 3-3.5 percent depending on the index and margin for their mortgage.

Refinance calculator

Using a refinance calculator to investigate a mortgage refinance from a very low interest rate ARM to a 30 year fixed rate, even with a historically low mortgage rate, leaves no clear cut decision of "I should refinance." Plugging in your current rate, payment and mortgage balance to refinance will undoubtedly show that by refinancing from an ARM to a fixed rate your monthly payment will increase.

How do you answer the question "should I spend money on closing costs to refinance so I can have a higher mortgage payment?"

You answer the question by asking yourself, "What happens in the future if I don't refinance?"

Rates have declined to all-time lows, your ARM rate and payment has declined as low as it can go. What next? If the only way to go is up, the logical answer is that higher rates and higher payments are next.

Amortization calculator

An amortization calculator is perhaps more useful than a refinance calculator to assist you in determining whether to refinance from your ARM to a fixed rate mortgage. The answer if "no" to refinancing if you only consider your current rate and payment, however what is the answer when you consider a higher rate on your mortgage in the future?

Short term interest rates are beginning to rise along with the longer term 30-year fixed mortgage rates. Consider your current margin of 2, 2.25 or 2.5 percent over your index, which may be the Monthly Treasury Average (MTA), the London Interbank Offering Rate (LIBOR) or the Cost Of Funds Index (COFI). When your index reaches 3 percent, 3.5 percent, 4 percent--where each of these indices have been only three years ago--what will your payment be?

Use the amortization calculator to calculate your payment with a higher rate if your index increases 2, 3 or even 4 percent, which is very possible in the coming year or two as the economy begins to improve and rates rise. Now calculate the payment based upon a mortgage refinance with the current fixed rate. Does refinancing make more sense?

Refinancing an ARM

When determining if you should refinance your ARM to a fixed-rate mortgage, consider where your rate could be, and under current circumstances should be, in the future. Are you willing to increase your mortgage payment in the short term to protect yourself from a much higher payment in the future?

How much longer will your ARM mortgage rate be below the current 30-year fixed rate you can obtain by refinancing?

If you have an ARM, consider what your payment could be in the future when your mortgage rate goes up, how high can your mortgage rate and payment increase? Is it considerably higher than if you were to get a fixed rate mortgage today?

If you are thinking that your ARM rate and payment will stay at historic lows for a considerable length of time then you may be kidding yourself. Rates will increase, what is unknown is how soon, how fast and how far. If you have an ARM, use the available mortgage calculators to analyze your options and future mortgage payment possibilities if you refinance or if you don't refinance your mortgage.

Posted By :
Dennis C. Smith is co-owner and broker of record for Stratis Financial in southern California. He has over twenty years' experience in the mortgage industry.

Housing conditions shift in favor of refinancing

September 12th, 2012

With all the attention given to low mortgage rates in the past couple years, it can be easy to forget about the other key variable in home affordability -- h...  Read More

Homeowners search for solutions after write-down program is scrapped.

August 20th, 2012

The U.S. government wants Fannie Mae and Freddie Mac to write down mortgages to help troubled borrowers and spur the housing market to recovery. It is estima...  Read More

Should you relocate if you still have a mortgage?

August 15th, 2012

Trying to find employment in this economy can be challenging. Moving to a new city or state could open up new job possibilities. But what if you have a house...  Read More

When rates change rapidly, reach for a refinancing calculator

July 26th, 2012

Another new low in mortgage rates is creating opportunities for home buyers and homeowners alike. Today's rapidly changing rates have also made mortgage calc...  Read More

0 Responses to "Are you ARMed?"

No Comments

Leave a Comment