December 4, 2022

Confused by the New Mortgage Gimmicks? Here’s a Guide.

More people are turning to adjustable-rate mortgages, or ARMs, which start out with a lower, fixed rate for a set period — say, five or 10 years — and then adjust to a variable rate. That makes them riskier, but it appears to be a risk more people are willing to take. As of Sept. 9, nearly 11 percent of mortgage locks — that is, when applicants lock in a particular rate — were for ARMs, up from 2.5 percent a year earlier, according to Black Knight, a data firm that tracks the mortgage market.

The average rate on a five-year ARM was 5.3 percent (with a fee of 0.4 percent of the mortgage amount), or more than a full percentage point below the average rate of 6.7 percent on a 30-year fixed loan (with 0.9 points) for the week ending Sept. 29, according to Freddie Mac. On a $400,000 loan, that’s $360 in monthly savings.

A longer fixed period is a safer bet, giving borrowers more time to accommodate their life plans before the loan resets at the higher, variable rate. It also means that rates could fall enough that it would make sense for a buyer to refinance to a fixed-rate loan.

Interest-only loans work just as they sound. Borrowers pay only interest for a set period, usually up to 10 years, resulting in a lower monthly payment. After that, the payments jump because they include both interest and principal, just as a typical mortgage does, except over a shorter remaining term. But, because these are typically structured as adjustable-rate mortgages, the rate is fixed during the interest-only period and variable thereafter.

Such loans become especially dangerous when they are used to buy a home that would otherwise be out of reach for a buyer, which is exactly what happened during the run-up to the financial crisis. Borrowers piled into these and other risky loans, and when the housing market plunged, many people were left holding mortgages worth more than their properties, and with payments that they could no longer afford.

Now, these loans are largely used by more affluent homeowners to manage their cash flow, giving them the flexibility to pay down principal when they receive cash from a bonus or a commission, for example.

It is challenging to make apples-to-apples comparisons when shopping for a mortgage given the points and fees charged in addition to the underlying rate, but there are a few ways to make it easier. If you want to get quotes from three lenders, you’ll need to clear enough time to make the inquiries on the same day. If you spread them out over several days, rates may change.

Article source: https://www.nytimes.com/2022/09/29/your-money/mortgage-guide-home-buying.html

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