Second Home Mortgage Rates.
I have received some loan solicitations that claim to be able to cut
my mortgage payment nearly in half (A.R.M. 1.25% start rate/3.87%
APR). How does this work? Am I gonna pay an arm and a leg for the
points and costs? What's the catch? What's APR anyway? Thanks for
sharing!
They are not _necessarily_ a bad deal. Two scenarios come to mind.
You're young and buying a house for the first time. You have a decent job,
but because you're new and inexperienced, your annual earnings aren't what
others who've been there five or ten years are making. You can reasonably
expect that in a few years you'll be making more, perhaps considerably more.
You could buy something small/cheap now with a fixed rate, and trade up a
few times as your earnings increase, or you could buy something bigger/more
expensive now with an adjustable mortgage that starts out with a payment you
can afford now and gets larger later on, saving you the trouble and expense
of selling the old place and buying a new one, and obviating the need to
move.
The second scenario is you buy a house with an adjustable rate mortgage, and
rates fall. The size of your payment declines over time, automatically,
without the trouble and possible expense of periodic refinancings.
The second scenario would have worked out well for me when I bought my
second house, the one I'm in now. I got a fixed rate mortgage at the then
astonishingly low rate of 9.5% when I bought. Rates have fallen more or
less continuously since then, and I've refinanced, but if I'd had an
adjustable mortgage, I would have ended up paying less interest over the
life of the loan, even if rates shot up to the top of the cap tomorrow and I
had to pay around 15% for the remaining 9 years or so I have to go.
Of course, the second scenario would have worked against me with my first
house, which I bought with a fixed rate mortgage of 10.5%. Over the next
few years, rates did nothing but go up, peaking at somewhere around 20%.
Given current conditions, with rates at near historic lows, my guess is that
payments on an adjustable mortgage will go up rather than down, but I could
be wrong.
I'd suggest, however, that someone who doesn't know what "APR" means in this
context needs to educate himself before even considering such a transaction.
To answer the original question, it sounds like the loan starts out with an
initial interest rate of 3.87% (and the payments are sized accordingly).
The interest rate is tied to some index, and can rise (or fall) by 1.25% at
the end of each adjustment period (usually a year) and the payment will rise
fall with the rate change. Unstated is whether or not there's any cap,
either on the low or high end, what the index is, what the margin is.
Closing costs fall into two categories. One is points, a certain percentage
of the principal amount of the loan. It's not unheard of for a lender to
make up for a low nominal interest rate by requiring a certain number of
points to "buy down" the interest rate, so this portion of the total closing
costs could be higher than it would be with a fixed rate loan of the same
size at the current market rate. The only way to tell if this is the case
in this instance is to ask the lender.
The other portion is made up of things like real estate transfer taxes,
title and homeowner insurance payments, pro rata shares of things like real
estate taxes, gas/oil/electric bills, survey costs, etc. and would probably
remain unchanged even if the house was being paid for in cash.