With quite a few of the sub-prime lenders going out of business in the last few weeks, it certainly feels as though the mortgage market is experiencing a major meltdown. In some ways, it is true, but there is quite a bit of unfounded hysteria floating around. Every time we pick up the newspaper these days, the headlines hit us over the head with someone else who is losing their house, because they did not understand the terms of their current mortgage. One of the most complex mortgage animals out there is the loan often known as an "option arm" or "cash flow arm." This particular type of mortgage has been crucified in recent weeks. However, this type of loan has MANY good points. You just have to know how to use the loan properly before you get into one of these.
These are great loans if you are carrying multiple properties, because they can allow you to make a smaller payment than you would on a "normal" loan. The key to managing your loan properly is remembering the real reason you went into that type of loan in the first place. Many people use these loans to help pay off higher interest credit cards or other "bad debt." If you are making the minimum payment on the mortgage each month and you are continuing to spend as though there is no tomorrow, then you WILL end up in trouble no matter what type of loan you have. However, if you make the minimum mortgage payment and put an extra $1,000 or more toward your credit cards, then you will be working toward your goal of paying off higher interest rate debt.
The minimum payment is set very low at what I often call the "fake rate, " and it can often be as low as 1%. If you choose to make the lowest possible payment, and do not pay all of the interest due each month, then the monthly interest that you have not paid will be added to your mortgage balance. This amount is the difference between the "real" rate as set forth in your mortgage note and the rate of interest you are paying. The monthly interest that you do not pay can be added to your mortgage balance until the loan reaches typically either 110% or 115% of the original outstanding balance. Once the loan tops out at that point, it will begin to amortize over the remaining life of the loan such that you will be required to pay the full interest and principal payment each month. This can often be double of the amount of the payment you have been making. This normally does not happen until several years into the loan, but there is no set time limit in most cases. If you are not prepared to make the full payment at that point, then your loan could blow up on you.
While the loan balance can increase if you do not make the full interest payment, the balance can also decrease if you make any additional principal payments. One major advantage of an option arm is that if you own multiple properties, and then you sell one, you can pay down the mortgage balance on one or more properties with option arms. When you make the large payment, your minimum monthly payment will most likely decrease. So, if you have an option arm that adjusts monthly, and you pay down $200,000 on your mortgage, your subsequent monthly payments will adjust downward to take into account the $200,000 principal payment. This can not happen on a 30 year fixed rate mortgage. Your monthly payment on a fixed rate mortgage will not change if you make additional payments of principal.
If used wisely, the homeowner has the chance to get out of other debt or just refinance when a better deal comes along. It seems that most people seem to refinance every two or three years in any event, so it does not necessarily pay to go into a 30 year fixed rate mortgage, particularly if cash flow is an issue.
Another plus to the option arm is that it does carry an adjustable rate. While many people panic at the thought of an adjustable rate, remember that rates can actually go down. While this has not been true in the recent past, many of the option arms out there contain very favorable adjustment features such that the payment will be very manageable at a point when the rates drop a little.
Please give me a call at 301-353-9680 if you have an option arm that you are uncomfortable with at this time. I can either show you how to make it work for you or find you a new loan that works better for you. We can look at how you are using the loan and determine how you long you have before it potentially "blows up." Many people do keep these loans for the life of the loan. Just remember, that if you don't make the payment, the bank will foreclose no matter what type of loan you have!!!!!!
As always, the advice given here is general, and there are exceptions with every mortgage.
These are great loans if you are carrying multiple properties, because they can allow you to make a smaller payment than you would on a "normal" loan. The key to managing your loan properly is remembering the real reason you went into that type of loan in the first place. Many people use these loans to help pay off higher interest credit cards or other "bad debt." If you are making the minimum payment on the mortgage each month and you are continuing to spend as though there is no tomorrow, then you WILL end up in trouble no matter what type of loan you have. However, if you make the minimum mortgage payment and put an extra $1,000 or more toward your credit cards, then you will be working toward your goal of paying off higher interest rate debt.
The minimum payment is set very low at what I often call the "fake rate, " and it can often be as low as 1%. If you choose to make the lowest possible payment, and do not pay all of the interest due each month, then the monthly interest that you have not paid will be added to your mortgage balance. This amount is the difference between the "real" rate as set forth in your mortgage note and the rate of interest you are paying. The monthly interest that you do not pay can be added to your mortgage balance until the loan reaches typically either 110% or 115% of the original outstanding balance. Once the loan tops out at that point, it will begin to amortize over the remaining life of the loan such that you will be required to pay the full interest and principal payment each month. This can often be double of the amount of the payment you have been making. This normally does not happen until several years into the loan, but there is no set time limit in most cases. If you are not prepared to make the full payment at that point, then your loan could blow up on you.
While the loan balance can increase if you do not make the full interest payment, the balance can also decrease if you make any additional principal payments. One major advantage of an option arm is that if you own multiple properties, and then you sell one, you can pay down the mortgage balance on one or more properties with option arms. When you make the large payment, your minimum monthly payment will most likely decrease. So, if you have an option arm that adjusts monthly, and you pay down $200,000 on your mortgage, your subsequent monthly payments will adjust downward to take into account the $200,000 principal payment. This can not happen on a 30 year fixed rate mortgage. Your monthly payment on a fixed rate mortgage will not change if you make additional payments of principal.
If used wisely, the homeowner has the chance to get out of other debt or just refinance when a better deal comes along. It seems that most people seem to refinance every two or three years in any event, so it does not necessarily pay to go into a 30 year fixed rate mortgage, particularly if cash flow is an issue.
Another plus to the option arm is that it does carry an adjustable rate. While many people panic at the thought of an adjustable rate, remember that rates can actually go down. While this has not been true in the recent past, many of the option arms out there contain very favorable adjustment features such that the payment will be very manageable at a point when the rates drop a little.
Please give me a call at 301-353-9680 if you have an option arm that you are uncomfortable with at this time. I can either show you how to make it work for you or find you a new loan that works better for you. We can look at how you are using the loan and determine how you long you have before it potentially "blows up." Many people do keep these loans for the life of the loan. Just remember, that if you don't make the payment, the bank will foreclose no matter what type of loan you have!!!!!!
As always, the advice given here is general, and there are exceptions with every mortgage.
