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Adjustable Rate Mortgages (ARMs)
Should Be Falling: Check Your LIBOR
Should Be Falling: Check Your LIBOR
There's good news for a change regarding adjustable rate mortgages (ARMs). For
the last five or six years the ARM has taken a beating. Some of the comments were just
vile. Some experts wanted to blame the collapse of the mortgage market and the
housing market on the lowly ARM.
People simply didn't understand the ARM. Well, at least the mortgage brokers, lenders
and bankers understood the ARM too well. It was the borrowers that couldn't grasp the
concept. And this is when the fight started.
The ARM is very simple. There are two parts to the ARM. The first part is the margin.
This represents the lender's profit. It could be 3%, or 4% or 4.375%. Whatever the
lender decides after he has considered his overhead, and the risk he is taking for
lending the money. Once the loan contract is signed that's it. The margin remains the
same for the duration of the loan.
The second part is the LIBOR. This changes. Up, down and sideways! LIBOR stands
for London InterBank Offered Rate. The LIBOR is generally quoted for 3 months, 6
months and 12 months. We can consider the LIBOR the best rate that preferred
borrowers world wide can borrow money. These borrowers can be major corporation,
countries or financial institution.
As it applies to adjustable rate mortgages, the LIBOR is important when you take out
the mortgage and also on the adjustment date. For example, if you took a mortgage in
June 2006, the LIBOR was at its highest in recent years at 5.7660%. If the lender had a
margin of 4.0%, your rate would have been 9.7660%.
The main issue with adjustable rate mortgage is the teaser rate. This point is lost in the
excitement of the borrower buying a home. Many times it is overlooked on purpose by
the mortgage or by the lender. With the teaser rate you get a very low rate initially. It
could be for 3 months, 6 months or 12 months. It could be whatever. It is not unusual to
see the teaser rate as low as 1.0% fixed. After the initial term, the real rate takes effect.
Below is a small chart to show how the adjustable rate mortgage should be falling and
this is to the benefit of the borrower.
June 2006 Margin plus LIBOR Your mortgage rate
June 2006 4.0% 5.7660% 9.7660%
June 2007 4.0% 5.4048% 9.4048%
June 2008 4.0% 3.1638% 7.1638%
June 2009 4.0% 1.6000% 5.1600%
June 2010 4.0% 1.2041% 5.2041%
June 2011 4.0% 0.7295% 4.7295%
How to negotiate a better Adjustable Rate Mortgage.
When you talk with your lender about a mortgage there are three areas to focus on.
The teaser rate and the initial period.
Try and get the teaser rate for as long as possible. Start by asking for 4 years. Chances
are that the lender won't give you 4 years. But it is a starting point for the discussion.
Slowly work yourself down to 3 years. Lenders generally would give you 3 years if you
ask for it. This is not a term that is plastered all over TV, newspapers and the internet.
The lender's margin.
Margins are a bit tight so don't expect to much give here. If the lender is quoting 4.0%
the ask for 3.50%. You might end up with 3.75%. This is good.
The option of converting to a fixed rate mortgage without penalties.
Having an exit strategy from the adjustable rate mortgage is a must have. You need to
be able to change to the more traditional fixed rate mortgage at any time. Lenders do
not want you to switch right after the teaser rate period ends. But a year later should be
acceptable. You might have to pay a little for the paperwork. But look at it as an
administrative fees. This shouldn't be more than a hundred dollars.
The bottom line is that the ARM is not a mystery. However, you have to understand how
it works.
the last five or six years the ARM has taken a beating. Some of the comments were just
vile. Some experts wanted to blame the collapse of the mortgage market and the
housing market on the lowly ARM.
People simply didn't understand the ARM. Well, at least the mortgage brokers, lenders
and bankers understood the ARM too well. It was the borrowers that couldn't grasp the
concept. And this is when the fight started.
The ARM is very simple. There are two parts to the ARM. The first part is the margin.
This represents the lender's profit. It could be 3%, or 4% or 4.375%. Whatever the
lender decides after he has considered his overhead, and the risk he is taking for
lending the money. Once the loan contract is signed that's it. The margin remains the
same for the duration of the loan.
The second part is the LIBOR. This changes. Up, down and sideways! LIBOR stands
for London InterBank Offered Rate. The LIBOR is generally quoted for 3 months, 6
months and 12 months. We can consider the LIBOR the best rate that preferred
borrowers world wide can borrow money. These borrowers can be major corporation,
countries or financial institution.
As it applies to adjustable rate mortgages, the LIBOR is important when you take out
the mortgage and also on the adjustment date. For example, if you took a mortgage in
June 2006, the LIBOR was at its highest in recent years at 5.7660%. If the lender had a
margin of 4.0%, your rate would have been 9.7660%.
The main issue with adjustable rate mortgage is the teaser rate. This point is lost in the
excitement of the borrower buying a home. Many times it is overlooked on purpose by
the mortgage or by the lender. With the teaser rate you get a very low rate initially. It
could be for 3 months, 6 months or 12 months. It could be whatever. It is not unusual to
see the teaser rate as low as 1.0% fixed. After the initial term, the real rate takes effect.
Below is a small chart to show how the adjustable rate mortgage should be falling and
this is to the benefit of the borrower.
June 2006 Margin plus LIBOR Your mortgage rate
June 2006 4.0% 5.7660% 9.7660%
June 2007 4.0% 5.4048% 9.4048%
June 2008 4.0% 3.1638% 7.1638%
June 2009 4.0% 1.6000% 5.1600%
June 2010 4.0% 1.2041% 5.2041%
June 2011 4.0% 0.7295% 4.7295%
How to negotiate a better Adjustable Rate Mortgage.
When you talk with your lender about a mortgage there are three areas to focus on.
The teaser rate and the initial period.
Try and get the teaser rate for as long as possible. Start by asking for 4 years. Chances
are that the lender won't give you 4 years. But it is a starting point for the discussion.
Slowly work yourself down to 3 years. Lenders generally would give you 3 years if you
ask for it. This is not a term that is plastered all over TV, newspapers and the internet.
The lender's margin.
Margins are a bit tight so don't expect to much give here. If the lender is quoting 4.0%
the ask for 3.50%. You might end up with 3.75%. This is good.
The option of converting to a fixed rate mortgage without penalties.
Having an exit strategy from the adjustable rate mortgage is a must have. You need to
be able to change to the more traditional fixed rate mortgage at any time. Lenders do
not want you to switch right after the teaser rate period ends. But a year later should be
acceptable. You might have to pay a little for the paperwork. But look at it as an
administrative fees. This shouldn't be more than a hundred dollars.
The bottom line is that the ARM is not a mystery. However, you have to understand how
it works.
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