Fixed rates are up, but still pretty good, if you don’t compare them to the lowest point in time (wishful thinking and not human nature—I know). An alternative and great solution may be to explore Adjustable-Rate Mortgage products. Borrowers who are interested in saving money with a lower interest rate may benefit. In the past, the adjustable-rate mortgage was the topic of many articles. Those articles pointed out the negatives, but overlooked the positives. Proper up-front analysis is the key. The borrowers that bought houses they couldn’t afford using exploding ARMs—a 2% teaser rate could jump to 8% within two years, even if market interest rates didn’t change. Today ARMs are only a small part of the market, but here’s the surprise: Most don’t adjust for five, seven or 10 years and can make sense for homeowners with lots of equity if they plan to downsize or pay off the loan within that time frame.
Given that 15- and 30-year fixed mortgage rates are still low (depending on what year you use as a comparison), should you even consider an ARM? Our feeling is that if you’re aiming to pay off your mortgage in a short period of time you may be able to save some cash. Real savings happen if you pay off the loan within the five to 10 years before the ARM adjusts—effectively turning it into a very short, very low-rate fixed mortgage (which is great, if you plan to move in the next several years or if you want to pay off a big mortgage before you retire).
How do they work? One example (these are not rate quotes, just an example) is a 5/1 ARM at 2.75%, with a 2/2/6 cap. The 5/1 parts means the rate is fixed for 5 years and adjusts up or down annually afterward (based in this case on the SOFR index). The 2/2/6 part means the maximum first-year adjustment is two percentage points above the initial 2.75% rate and after that it can adjust another two percentage points each year, with a maximum lifetime adjustment of six percentage points—so it can hit 8.75% in year eight and beyond.
Don’t go too short! If you’re selecting an ARM because you expect to pay off the mortgage before the initial rate period is over, leave yourself extra room. For example, if you expect to sell in six years, for example, take a 7/1 ARM rather than a 5/1 ARM.
Stick to your early payment schedule.
If you’re aiming to pay down a 30-year ARM fast, make sure there are no prepayment penalties. Then calculate how much extra in principal you’ll need to pay a month. (If you don’t stick to the schedule, check into refinancing again.)
Don’t go too big. With rates so low, it’s tempting to refinance for more than your existing principal and use the extra cash to, say, build a dream gourmet kitchen. Just don’t stretch too much when taking an ARM. You’re still assuming interest rate risk—even if it’s put off for five or seven years.
Questions to ask yourself:
Question 1: Are you interested in saving money?
You may have missed out on the lowest 30-year fixed rates we’ve seen in a while, but you still have an opportunity.
Question 2: Did you ever pay off a 30-year mortgage loan in your lifetime?
Chances are you haven’t. Most people move or have a life-changing circumstance that compels them to adjust their current mortgage well before 30 years. Some facts to think of: Americans typically live in three-to-five-year increments. Most people refinance every five to seven years on average anyhow. Amazing for clients with short-term plans of staying in their current residence. It is a fantastic way to increase equity or be in a position to drop PMI payments sooner. ARMs allow clients to manage their home as an asset versus a liability.
Question 3: What are your financial goals for the next three to five years?
Was there a recent marriage, or a divorce? Is there an addition to the family? Are there debts that need to be paid? New roof? Would lengthening your term save more money? Plan to sell soon?
Life is a big roller-coaster ride so remember ARMS are flexible and can adjust with your life.
Carl Guzman, NMLS# 65291, CPA, is the founder and president of Greenback Capital Mortgage Corp. and MortgageGenius.com. He is a residential financing expert and a deal maker with over 30 years’ experience. Carl and his team will help you get the best mortgage financing for your situation and his advice will save you thousands! www.greenbackcapital.com [email protected]apital.com