AFRAID OF AN ARM LOAN? DON'T BE!
by Diane St James © 2003
Many folks are old fashioned today when it comes
to their mortgage loan. Many other trends are accepted
with little or no resistance. It doesn't matter that
most kids have their own cell phone, every
household has at least one if not two computers,
not to mention the best and newest DVD system.
Nope, there are some die hard sticklers when it
comes to getting out of their comfort zone of the
fixed rates mortgages. After all, there is too much
uncertainty as to what the rate will be after the initial
fixed rate period.
This is true to some extent. There is some uncertainty
except that most ARM loans have caps or maximums
that the rate can ever go (steer clear of the ones that
do not or ones that have the potential for negative
amortization with the risk of owing more than you
Now that I've scared the wits out of any of you sticklers
who have read this far, let me explain that there are
cases when an ARM is the best way to go. And if the
thought of a 6 month or 1 year ARM is still too unsettling,
I suggest sticking with the ones that are fixed for an
initial longer term (so that it works the same way that a fixed
mortgage does for the initial term).
I do some underwriting work that involves relocating
borrowers. These are folks that for whatever work
related reason move out of state or sometimes even
across the country every two or three years. Again
and again they want a 30 year fixed rate loan. Why?
If you know for a fact you will be moving in 2-3 years
you will save money by taking an ARM Loan.
Most ARM loan rates have an initial rate
one or even close to two percentage points lower
than the 30 year fixed rates often times.
For example, if there is a given amount of certainty
that you are moving within 3 years, the 3/1 ARM
is a good option (fixed rate for the first 3 years then can
adjust once a year after that). The rates for that program could
very well be around 4.125 percent, while the 30 year fixed
rate is around 5.875 percent. On an average loan amount
of $125,000, this equates to $133.61/month or
$1603.32/year in savings! Let's say you move at the
end of the third year. You will have saved $4809 total
by going with the 3/1 ARM and also lowered your
balance by more than you would a 30 year fixed loan.
By starting out at a lower interest rate more of your monthly
payments go toward the principal balance.
Some folks are buying a home to live in as a starter home.
Granted sometimes these starter homes turn into "wait until
the kids are ready to start school" houses, then to "wait
the kids are out of school" houses.
But if truly a starter home that you only plan to live in
for 5 years or so, a 5/1 ARM program could be the way
to go and would still save money in the long run by the end
of the fifth year (fixed rate for the first five years then can
adjust once a year after that). (Please check first and see if there
are any special rate first time homebuyer programs that you may
Using the same example above with a initial rate of 4.875%
on a 5/1 ARM and the 30 year fixed at 5.875%, you will
save $ 77.91/month on the same $125,000 loan or $943.92/year.
At the end of 5 years, your savings just in the payment difference
alone will be $4719.60.
QUALIFYING FOR MORE HOME
I hesitate to include this one because so many folks
tend to overextend themselves and find that they are barely
making ends meet because of a high mortgage payment that they
'qualified' for. Nonetheless it is a reason to go with an ARM
When qualifying for a mortgage, depending on the type of ARM loan,
you may be qualified at the initial payment rate and therefore be
able to get approved for a higher loan amount meaning a more
This works out well for many folks who are only a few years into
their working careers and are anticipating raises or even promotions
within the first few years of being in their new home.
Just do some number crunching before you go this route,
or better yet utilize my services and let me do it for you.
So now you see, by taking an ARM loan product you could save
yourself thousands of dollars, even enough to replace those one or
two computers in your house! Better yet put the extra savings into an
asset account that can earn interest and see how much more you
have in the end!
*I am using a typical Fannie/Freddie ARM product
for this article. Any alternative ARM programs should be
carefully evaluated before selecting.
Diane St. James is a mortgage professional with over 23 years
experience. Her website http://www.abcmortgage.net exists to help
educate people about the mortgage world. She is the author of 2
e-books, and has been quoted in the WALL STREET JOURNAL,
appeared on national cable new television CNBC, and was featured on
a Cover Story for USA