When purchasing a home, finding the right home is very important. One must consider the location in relation to not only work and shopping, but also the types of schools that are in the area. Often, this means selecting a home that is not exactly where you want, just so you can make sure your children are at the best school. While these decisions are quite important, equally important is the choice of the mortgage lender.
A mortgage is a type of loan that is used to help make it possible for people to purchase a home, even if they do not have the entire balance up front. Mortgages vary by lender and there are several different options, but the most common is the thirty year fixed rate mortgage. This means the mortgage is for a length of thirty years and the interest rate is fixed, so as long as payments are made on time, it will not change over the course of the loan.
Another popular type of mortgage is the Adjustable Rate Mortgage. Like the fixed rate, the most common length is thirty years. An adjustable rate mortgage has, as is implied by its name, an interest rate that changes over time. Usually they are described as 5 Year ARMs or 2 Year Arms, which describes how often the rate is adjusted. So, for example, in a 5 year ARM, every five years, the interest rate will be adjusted in relation to the current market. It is important to plan for it to always go up, but with the way the current financial market is, many with quality ARMS have actually seen decreases in their interest rates over the last few years.
The main advantage of an ARM is that it has a lower initial interest rate, but it is important to understand the terms of the loan. Some things to watch out for are early pay off penalties and rates that can be adjusted by more than 1% at a time. Adjustable Rate Mortgages have gotten a bad rap, in part because many of those offered during the buildup to the financial meltdown were actually subprime adjustable rate mortgages.
Just like finding the right location is important, it is also very important to find the right mortgage lender. Those with good credit are at a big advantage here, as they will be able to pick and choose which lender they want, with banks and lenders being motivated to get their business. However, getting a mortgage with no-credit or even bad credit is also possible, but it is essential to avoid predatory lenders, who offer subprime mortgages to those who don’t have many options.
The best place to start looking for a loan is your local bank. This is because they already have a working relationship with you and can often provide you an answer one way or the other very quickly. Even if they turn you down, it is still a good idea to find out what types of mortgages they offer and their terms, as well as their interest rates. Most brick and mortar banks will have a very standard mortgage options, so they can be used to compare other offers to.
Once you have an idea of what your bank can offer, it is usually a good idea to speak with a mortgage broker. Mortgage brokers are basically middle-men who usually have a working relationship with several different mortgage banks. They will be able to check their resources and offer you a few different options. However, it is very important to carefully consider their options, because they only get paid if you buy a loan through them, so are motivated to make a sale.
Once you have received a few offers, don’t be in a rush to jump into a loan. Instead, carefully evaluate each mortgage, its terms, and requirements. This way, you can avoid falling into bed with a predatory lender, who offers a subprime mortgage, such as having an early payoff penalty.
In life, often buying a home is the biggest monetary investment a person will ever make. In most cases, especially in the United States, the homeowner does not have the money to purchase a home upfront, so uses a special type of loan called a mortgage. There are many types of mortgages, but, today, the Adjustable Rate Mortgage and the Fixed Rate Mortgage are the two most common kinds.
Mortgages are actually nothing new and date back many hundreds of years. However, over time, the rights of the homeowner has been increased and made stronger. In the times of Kings, the person who held the mortgage was, for all intensive purposes, the homeowner and had full control over the property until the mortgage was repaid. However, today, the bank is not considered the homeowner and can only take possession of the home if the loan holder does not pay, with even this not being a process without some judicial oversight.
Another change that has occurred recently is the types of mortgages used. The Fixed Rate Mortgage was, traditionally the primary type of home mortgage for many years, but today there are a number of other loan devices, of which the Adjustable Rate Mortgage is becoming more and more popular.
Fixed Rate Mortgages are much easier to understand than other types of loans. The loan holder has a fixed time that they must repay the loan by, usually 15 years or 30 years, and a fixed interest rate for this entire time. So, if you get a 30 year fixed rate mortgage at 6.5%, you will know that each mortgage payment for the next thirty years will be at the same rate.
Fixed Rate Mortgages offer a number of advantages, mainly that your interest rate can not usually be raised, well at least providing you make the payments. This makes it very easy to plan payments, while also protecting your investment against inflation and higher interest rates.
The Adjustable Rate Mortgage(ARM) is much new by comparison to fixed rate mortgages, first becoming popular in the early nineties. Adjustable Rate Mortgages are mortgages that have an interest rate that is adjusted every few years. The period of when the interest rate increases varies, but it is often every two or three years.
When an adjustable rate mortgage reaches its adjustment rate, the loan holder will change the interest rate to reflect the current market. Most ARMs are restricted to only raise one point(1%) each adjustment, but this is not always the case. It is possible for the interest rate to go down, such has been the case for many recently, but this is not something that should be counted on.
It is also possible that the interest rate will not raise the entire 1%, or whatever the limit is, but again this should not be counted on. In addition to having a limit of how much the interest rate can change with each adjustment, there is also usually a limit on how high the interest rate can raise over the course of the entire loan. For instance, there might be a 8% adjustment allowed over the entire course of the mortgage.
Since understanding how and ARM works can be a little difficult, it is often easier to look at an example adjustable rate mortgage and see how it works.
Take a 2 Year ARM that starts with an interest rate of 4.75%, which can be adjusted by 1% each period.
For the first two years of the mortgage, the interest rate will be at 4.75%. Then, after two years, the interest rate will be reevaluated and the current market will be taken into account. It will then be raised or lowered, keeping within the 1% limit, so for this example, lets assume it raises by the entire amount.
For the next two years, the interest rate will be 5.75%, which will again be reevaluated in 2 years.
There are a couple of advantages to using an ARM, but it is not always the best choice. The main advantage is that the introductory interest rate is usually lower than that of a fixed interest rate. So, the first few years will be lower, allowing the homeowner to put some extra money towards the principal of the loan or simply saving some money. Many people go with an ARM with the intention of paying their home down more rapidly or refinancing when the rates equal that of a standard fixed rate mortgage.
The ARM, and several variants, were one of the most abused loans during the recent real estate bubble bust, which resulted in many foreclosures.
There were a number of details that make an ARM subprime. One of the main factors was there was often no limit on how much the rate could increase, especially if the person missed a payment, which often forfeited many of their rights.
This lack of a ceiling on increases, especially when the homeowner had missed a payment, caused these subprime ARMs to rapidly increase. It was also not uncommon for people to get sucked into negative amortization ARMs, which basically mean the person was not paying all the interest on their loan, which was being tacked onto the end of the mortgage. As a result, each month the person would end up owing more on their loan.
For someone with less than perfect credit, it is often not possible to get a good rate on a Fixed Rate Mortgage, so an Adjustable Rate Mortgage might be the only option. ARMs also sometimes offer such a low initial interest rate that the there are literally hundreds of dollars in differences for the first few years. However, an Adjustable Rate Mortgage is not always the best choice.
It is important to always find out how much an ARM can increase each period and how much it can increase over the course of a loan. ARMs that have no limits, or with unrealistic limits, are most likely subprime, so this is an important consideration.
Buying a new home is a big step and for some is the largest investment they have ever made. Most people can not afford to buy a home outright, so they get a loan instead. This loan is called a mortgage and there are two main kinds.
With a fixed rate mortgage you are guaranteed by the lender to maintain the same interest rate during the entire length of your loan. The major advantage to this type of loan is that if the federal interest rates go up, you are locked in at a lower rate that can not be changed by the bank. There is a flip side to this though, because if the federal interest rate goes down, your interest rate will not.
Most people that finance their home with a fixed rate mortgage, do so over the course of 30 years. The advantage to this is that you get a larger tax advantage and because it is spread out over 30 years a lower monthly payment.
Others opt for a shorter mortgage of 15 or 20 years. Generally the shorter the loan, the lower the interest rate. This means you pay less interest, but because you are paying over a shorter time the monthly payments will be higher.
Adjustable Rate Mortgage (ARM)
An adjustable rate mortgage, as the name implies, is a mortgage that does not have a fixed interest rate. The interest rate is set to be re-evaluated at a predetermined period. The interest rate can go up or down and a cap is placed on the percent it can change each time.
The frequency that the interest rate adjusts is set by the bank, as is the amount the interest rate can change each time. For example say you are offered a 4.9% 3/1 ARM. This means that the first 3 years, the interest rate will stay at 4.9%. After that your interest rate will adjust every 1 year. The percent that the interest rate can go up or down is set at the time of the loan, but it is often 1%. So in 4 years when the interest rate change, you would probably be paying 5.9%. The next year it would be re-evaluated and would either raise or lower 1%.
The advantage to this type of loan is that your initial interest rate will be generally less expensive than a fixed rate mortgage. If you keep the loan without refinancing though, you will likely end up with a much higher interest rate because except in times of recession, your interest rate will not typically go down. An adjustable rate mortgage is perfect if you intend to refinance or sell your home within a few years before the interest rate changes.