What are
Adjustable Loans (ARM)? ARM's Explained:
Virginia Mortgage Bankers, LLC offers hundreds of adjustable rate home
loans. We are the 3rd largest mortgage broker in the U.S.
offering low mortgage rates. Some of our most popular mortgage
loans are adjustable rate home mortgages. An adjustable
rate home loan is a mortgage with an interest rate that changes,
periodically, during the life of the loan, according to a
specified index and time schedule.
Choosing
Adjustable Rate Home Loans
ARM'S: Pros and Cons
The type of adjustable rate
loan you select to finance your
home will depend on a number of variables specific to your
individual situation. These variables can relate to your current
level of income, amount of liabilities, expectations of future
income, or length of time you plan to live in your home.
Adjustable rate
loans are popular because of the
lower initial interest rate, as compared to an often higher
interest rate for fixed-rate financing. The lower interest rate
makes it easier to qualify for a loan because less income is
needed. In addition, the lower interest rate may allow you to
borrow more money and purchase a larger, or nicer home.
With adjustable rate loans, borrowers generally, are not
locked-in to high marketplace interest rates that may occur at
the time they obtain their loans, since ARM interest rates will
decrease if rates decrease. Also, if you only expect to live in
your house for three to five years, an ARM may be the best choice
because the initial interest rates are lower.
On the other hand, adjustable rate home loans do not allow the
borrower to anticipate precisely what mortgage costs will be over
the life of the loan. At each adjustment period, your adjustable
rate mortgage rate and monthly payment may change. As a result,
it may be difficult to plan your finances.
Characteristics of
Adjustable Rate Loans
To know how adjustable rate loans work, you must
understand the following basic characteristics of these type of
mortgages.
Interest Rate - Adjustable
rate home loans typically offer an initial rate of interest that
is below the rate for fixed-rate mortgages. This initial interest
rate can be in effect for a few months, or for several years,
depending upon the terms in the ARM.
When the initial interest rate period ends, interest is then
determined on the basis of an index. ARM Index's
include the 3-Month Certificates of Deposit Index, CODI. Other
commonly used indices include the Cost of Savings Index,
COSI, Cost of Funds Index, COFI, Monthly Treasury Average,
MTA and London Inter-Bank Offered Rate, LIBOR. We will work together
to determine the index and program that best fits your individual
financial situation.
The particular index used to set interest rates for an adjustable
rate home loans is very important. Generally, an index that
follows long-term market interest rates is less changeable, which
means the borrower has a better chance at more consistent
interest rates.
While lenders may choose which marketplace index is used for an
ARM, they have no control over the index values. Whatever index
the lender chooses, make sure you understand:
- The basis for the index being
used
- How that index performed in the
past
- What changes in the index would mean to your future
mortgage payments.
With adjustable rate home loans, a lender adds a
margin amount to the index value. Although the index value may
change, the margin is set at the beginning of the loan and does
not change. This is why its very important to keep the margin as
low as possible as it will never change. Index plus
margin equals your interest
rate.
Adjustment Periods - The loan
documents of adjustable rate home loans will tell you how often
interest rate changes may occur. Although the rate change could
occur every month, it is more likely that it will change every
several months, or once a year. For example with adjustable rate
home loans, your loan agreement may state that the adjustment
period occurs once a year on January 1, and your ARM interest
rate is 5%. If, on February 1 of that same year the index
increases, you would still maintain the 5% ARM interest rate
until the following January 1, when your adjustable rate mortgage
rate would be recalculated. Depending upon changes in the index,
your ARM interest rate may go up, down, or remain the
same.
Interest Rate and Payment Caps
- Most adjustable rate loans have limits on the percentage amount
that the ARM interest rate can rise at each adjustment period,
and over the life of the loan. These periodic, and overall caps
protect you from a large payment increase when the adjustment is
made to the interest rate. For example, a loan agreement may
state that the adjustable rate home loans interest rate cannot
rise more than 2% at any adjustment period, or more than 5
percentage points for the life of the loan. So, if your ARM
interest rate begins at 5%, you know that your ARM interest rate
will not rise above 7% at your first adjustment period, and never
above 10% for the life of the loan. A payment cap may also be
included in an adjustable rate home mortgage, which limits your
monthly payment increase at the time of each adjustment period,
usually to a percentage of the previous payment. Many ARMs with
payment caps do not have periodic interest rate caps.
Negative Amortization -
Although most adjustable rate home loans are paid off within the
loan term, usually 30 years, you should be aware of unusual terms
of your ARM that may cause your loan balance to increase rather
than decrease. An increasing loan balance is called negative
amortization. Negative amortization can occur if your adjustable
rate home mortgage has terms that state your monthly payment
increase may be capped below the amount required to fully reflect
the change of your loan's interest rate. If your monthly
payment does not reflect your loan's interest rate, then the
unpaid interest is added to the loan balance. If negative
amortization occurs and your loan balance increases, you may be
responsible for an unexpected large payment to decrease your loan
balance to a stated amount.
Payment Recast- Another way of
limiting negative amortization of is to require a periodic recast
or adjustment of the adjustable rate home mortgage's payment.
Some ARM's are recast every five years, some ten years. When
the loan is recast, the payment required to fully amortize the
loan over the remaining term becomes the new minimum payment, and
payment caps do not apply. There is no limit to how much your
adjustable rate home mortgage payment can go up during the
recast.
We have put together
adjustable rate questions to ask before taking out
your mortgage. We will work together to determine exactly which
adjustable rate loan is best suited for your unique
needs.
There are many
types of adjustable rate home loans. We encourage you to contact us at
Virginia Mortgage Bankers, LLC today for an adjustable rate mortgage
quote and we will be happy to discuss all your adjustable home
loan options! Or simply use our online adjustable mortgage loan application and we
will contact you to discuss your options and questions for your
adjustable rate home loans!
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