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Loan Product Summary

SUMMARY Combination Fixed and Adjustable Rate combo loans are a combination of fixed rate and ARM loans. These ARMs attach a delayed adjustment period during which the initial period is fixed. Adjustable Terms combos start out at fixed rates loans, adjusting to ARM after a set period of years. Less Interest Rate Risk these loans carry less risk than 1-year ARMs and the interest rate is generally lower than fixed-rate loans. Great for Moveable Homeowner since many homeowners remain into their homes for about 7-10 years, combination loans allow buyers to take advantage of lower interest rates in the first few years of the mortgage.

 

money saving tip Make sure the mortgage loan does not have pre-payment penalties. Also check the convertible feature of the ARM — check conversion rate and cost of conversion. ARM rates are calculated by the lender adding a margin to major index — the margin is the bank's profit, try to negotiate this margin down. Also negotiate with the lender on any up-front fees, especially fees for convertibility and that are assumable — you may need to use these features if you plan to move in a few years. If you can afford the monthly payment on a 15-year loan, you will pay substantially less money than on the 30-year loan — plus your home will be paid off in half the time — see calculation Another Money Saving Tip View our program to help payoff your mortgage in 1/3rd of the time saving your thousands in interest — plus imagine how to use your mortgage payoff bonus to plan for college, retirement, other see how the mortgage payoff plan works

Loan Advantages and Disadvantages

ADVANTAGES Lower Rate and Risk gives the homeowner a lower rate than fixed-rate loans plus lower risk that the 1-year ARMs Save on Total Costs many consumers select the combos when they know they will be in the home for a select period of time Available for Larger Loan Amounts homeowners use combo loans to lower their rate and to qualify for larger loan amounts Assumable Combos and ARMs that are generally assumable which is a plus when homeowners plan to sell in the near future Rates Can Decrease ARMs rates can decrease in declining interest rate markets reducing your loan payment   DISADVANTAGES Rates a Bit Higher combo rates are typically higher than 1-yr ARMs Payment Could Raise rates will adjust at the end of the initial period that could raise your payment Hard to Budget interest rates will adjust annually after the initial period making it hard to plan your finances Rising Costs in rising interest rate markets, your monthly payment can increase significantly after the initial fixed-rate period

 

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Types of Combo Loans

The basic types of combos include the following:

30/3/1
30/5/1
30/7/1
30/10/1

Example of 30/3/1:
30/3/1 ARM is a 30 year loan with a fixed interest rate and payment for the initial period of 3 years.

At the end of 3 years, the interest rate and payment changes once each year for the remaining period of the loan.

Example of 30/10/1:
30/10/1 ARM is a 30 year loan with a fixed interest rate and payment for the initial period of 10 years.

At the end of 10 years, the interest rate and payment changes once each year thereafter for the remaining period of the loan.

The 30/3/1 will have a lower initial rate than the 30/10/1. The higher the delayed adjustment period, the higher the interest rate.

There are also combos at:

15/3/1
15/5/1
15/7/1
15/10/1

These are the same loans with 15-year terms instead of 30 years.

Some combos come with longer adjustment periods.

The most common:
30/3/3
15/3/3

30/5/5
15/5/5

Example of 30/3/3:
30/3/3 ARM is a 30 year loan with a fixed interest rate and payment for the initial period of 3 years.

At the end of 3 years, the interest rate and payment changes once every 3 years for the remaining period of the loan.

Example of 15/5/5:
15/5/5 ARM is a 15 year loan with a fixed interest rate and payment for the initial period of 5 years.

At the end of 5 years, the interest rate and payment changes once every 5 years for the remaining period of the loan.

The challenge you have with this extended adjustment intervals is the timing of the interest rate market.

If interest rates shoot up at the end of your initial fixed-rate term, your adjustment rate will be set at a high rate during the period you selected. Likewise, if interest rates decline, you could set yourself in a nice interest rate position.

ARM Components

The ARM components include the following:

1: Index:

The ARM begins with a base number which is tied to an published index that can go up or down. The two widely used ARM indexes are the Treasury Rate Index and Cost of Funds Index.

2: Margin:

The margin is the additional amount that the lender adds to the index to derive the Interest Rate that is charged for the loan. The margin covers the lender's cost and profit. The margin varies between 1.5 to 3.0 percentage points.

3: Initial Interest Rate:

The initial rate is the current prevailing rate at the time that you lock-in your position, which is generally one to three percentage points lower than the prevailing 30-year fixed loan rate.

4: New Interest rate:

The adjusted interest rate over the life of the loan. The new interest rate is calculated at the time of adjustment

• New Interest Rate = index + margin

5: Adjustment Interval:

The time between the interest rate is scheduled to change. The ARM can change every six months, annually, every three years, or every five years.

• an ARM with an adjustment interval of six months is called a 6-month ARM.
  
• an ARM with an adjustment interval of 1 year is called an 1-Year ARM.
  
• and so forth

At the time of adjustment, your lender will recalculate your loan payment under the new interest rate and remaining term on the loan.

For example:
let's say that you close on 1-year ARM at 5.5% for 30 years. Your monthly payment during the first year (full 12 months) will be as follows:

Borrows Amount: $100,000 Interest Rate 5.5% Payment Term 30 Years (360 months)     Monthly Payments Yr-1 $567.79

At the end of one year:
your ARM will adjust and reflect the new interest rate. Your lender will then recalculate your new monthly payment using a 29-year term:

Borrowed Amount: $100,000.00 (less) principal paid Yr-1 $1347.09 New Borrowed Amount $98,652.91 New Interest Rate 6.0% Payment Term 29 Years (548 months)     Monthly Payments Yr-2 $598.83

6: Interest Rate Caps:

Interest rate caps protect the consumer in the event that interest rates rise too rapidly. There are lifetime caps and adjustment rate caps. Make sure your understand these caps when finalizing your loan decision.

Example Life-Time Cap: ARM index rate: 4.5% ARM margin: 2.5% Life-Time Cap: 4% Current Interest rate: 7.0% (index rate + margin) The ARM index rate has jumped to 8% The new interest rate equals 8% + 2.5% = 10.5% The life-time cap limits the new interest rate to: 4.5% + 4% = 8.5% Example Adjustment Rate Cap: ARM index rate: 4.5% ARM margin: 2.5% Periodic Adjustment Rate Cap: 1% Current Interest rate: 7.0% (index rate + margin) The ARM index rate has jumped to 6% The new interest rate equals 6% + 2.5% = 8.5% The adjustment rate cap limits the new interest rate for the adjustment period to: 4.5% + 1% = 5.5% So your new rate will be limited to: 5.5% + 2.5% = 8.0%

7: Payment Caps:

Limits the payment amount the consumer needs to pay at time of interest rate adjustments.

Note:
payment caps may not provide enough payment to cover the required interest charges during rising interest rates. Under this condition, the consumer will experience negative amortization — where the interest amount not covered is added to the principal of the mortgage loan.

Example:
if your payment cap limits your monthly payment to $1050 when the true payment should be $1250 due to ARM rate adjustments, the unpaid $200 will be added to the principal mortgage loan balance for later repayment.

Notes on the Interest Rate

Two widely used ARM indexes are the Treasury Rate Index and Cost of Funds Index.

1. Lenders on the East Coast and Mid-West typically use the Treasury Rate Index:
   
   which indices are the weekly or monthly average yields on U.S. Treasury securities. These indexes reflect the state of the economy and are more volatile as they move with the market.
   
   Treasure rate index is reported by the Federal Reserve:
   www.federalreserve.gov
   
   
   
2. Lenders in the West are more likely to use the Cost of Funds Index:
   
   which is published monthly by the Federal Reserve Bank of San Francisco.
   
   11th District Cost of Funds Indices:
   www.fhlbsf.com

Another widely used index is the LIBOR

LIBOR (London International Bank Offering Rates) as published by the WSJ or Fannie Mae.

More information about the LIBOR index from:
www.hsh.com

You will find that about 80% of all ARMs on the market today use one of the three above indexes.

The other 20% or more ARMs may use a variety of indexes that may include CDs index, PRIME Rate, the lender's own cost of funds, and other.

Make sure you check with your lending institution on the type of index they use.

View current average index rates from www.hsn.com:
www.hsh.com

Assumability and Convertibility

An assumability clause allows the seller of the home to transfer the mortgage loan to the home buyer.

This could be an attractive feature in the sale of a home during high interest markets.

For example:
if your ARM is capped at 1-2 points lower than prevailing ARM rates, your mortgage loan has value.

To illustrate this, let's say that interest rates rise and the prevailing ARM rate is 11%. Your existing ARM rate has risen respectively but has a maximum rate of 9%. You can transfer the 9% capped ARM to the new home buyer.

This assumability feature can become a selling point in the sale of your home.

Note on the other hand, that interest rate markets have been relatively low since the late-1980s. The new home buyer can generally find an ARM that is as low or lower than your current ARM. So in low interest rate markets, the assumability clause may not have value.

The convertibility clause allows the borrower to convert their existing ARM over to an prevailing fixed-rate loan.

This may become an exercised feature when interest rates begin to rise rapidly. The convertibility feature does have its cost, however.

• your conversion rate on a fixed-rate loan is generally higher than your current ARM rate.
  
• lenders may tack on the conversion rate an additional margin as compensation for the convertibility feature. Make sure your read the fine print.

Other ARM Notes

Teaser Rates:

Some lenders will entice borrowers with a teaser rate. Note that at the end of the teaser rate, lenders typically adjust the rate to the maximum amount. Make sure you calculate your monthly payment at the potential maximum rate.

Payment Recalculations:

At each adjustment period, lenders must recalculate your monthly payment at the new rate, remaining term, and existing mortgage balance after all existing payments and pre-payments made on the mortgage loan.

Lenders do make mistakes and overcharge ARM borrowers.

You should double check the banks calculation

Make sure you are not overpaying or underpaying your ARM mortgage. This requires you to calculate your new payment with the new rate (based on prevailing index and lender margin), remaining term and mortgage balance.

Download our amortization worksheet to help you in that calculation: click here

Learn about mortgage auditing services:
www.mortgagemonitor.com

Note: The loan information above is general information related to mortgage products and the mortgage lending process. The information does not represent terms of any particular lender. Lenders whom you may work with may offer different product terms.

PickMyMortgage.com is not a lender. Therefore, we cannot quote rates or guarantee best terms. We refer applicants interested in getting a lending quote to Secure Rights, a licensed mortgage broker representing multiple lenders.