I have read somewhere on this board about a 5 year ARM at 1.25%. Can someone explaine this program further.
I have read somewhere on this board about a 5 year ARM at 1.25%. Can someone explaine this program further.
I would imagine that is a negative amortization rate on an option ARM. Even then, I don’t think they are that low now as they are based on some moving average (LIBOR?) that is steadily rising, but anything is possible.
How do the programs work and is it benificial?
Basically, they allow you to make one of several payments each month.
15yr amortized rate payment, or
30yr amortized rate payment, or
interest-only payment, or
negative amortization payment
Now, imagine the loan was originally $100,000 @5%.
15yr amortized rate payment = $790.79
30yr amortized rate payment = $536.82
Interest-only rate payment = $416.67
Negative amortization rate payment = (depends on moving average at the time, but less than the others)
With an option ARM, you choose which payment to make each month from the available options. Brokers usually market this type of loan by hilighting the lowest payment option (the negative amortization rate payment), but you’re essentially giving away your equity each month doing this.
Giving away the equity by making the below intrest payment? They tack on the negative intrest not paid at the end when you sell or refi correct? Would the added cash flow make up the difference over time?
It of course depends on what the appreciation is like in the market that you are working with and also the rents. This I would say is more so geared for an investor who was able to buy low and is still able to ride the appreciation wave somewhat nicely. It’s like getting a loan on your loan, you can pay less now and make it up later.
Yes, you are correct, it is for investors that need positive cash flow and tax write off. When you are investing you what to use other people money as leverage. Short term if possible due to changing market condition.
To clear things up, the cash flow you generate using the option ARM will definitely help you on a monthly basis, but it will not make up for the amount you are going negative monthly. You’re still bringing in the same income whether or not you use this loan. This just helps you leverage your money a little more.
Also, the 1.25% rate is your minimum payment rate. That is the amount you are required to pay each month. This rate is still available
That is start rate. 1% 1.25… 1.9%… Tied to Libor or MTA… Different lenders uses different index COSI, COFI …etc.
The Option ARM is just a tool. Like many other tools it’s great if you know what you’re, and not so great if you don’t. The way I’ve learned to use this tool is to invest. your savings. I wouldn’t ever use the Neg-amm payment unless the property was REALLY appreciating at a fast rate and you had some solid investments.
The problem is when people blow the extra cashflow instead of putting it to work for them by investing it. I beleive interest only loans are the best thing since sliced bread…
I have read some good articles on option arms lately.
If you are paying the minimum payment you will be adding money to what you owe. With the housing market where it is right now if you cannot sell it for what you owe you are in a bad position.
I feel personally an option arm can be good in only a few instances. Mainly if you are an investor in the stock market. If you pay 1.9 % and save 500 a month on a large mortgage. Than invest that money for a higher return rate you are making money. Most onther instances its just pay me now or pay me later.
I ahve put some people into those loans. However they were people with lots of equity looking for short term cash. To them it was a business loan being repaid in a few years. they had been building some houses and rehabbing with high return rates. they needed money to get started but would make enough profit to pay it back. We did this loan with the mindset that they were using thier equity as a 1.9% short term business loan.
So unless you are going to make GOOD money by using an option arm i would avoid them like the plague. Look at how some of the LIBOR, COSI<CODI<MTA indexes have climbed in the last year and see how people cant afford payments or are losing a lot of equity because the fully amoritized rate has inflated so high.
FYI. the loans i am familiear with have a PAYMENT cap of 1-3%. Meaning that regardless of nterest rate your actual PAYMENT can’t go up more than that percentage. I’d suggest anyone really interested do this.
Get a BAII+ or other financial calculator and show yourself how much money you can make or lose.
Theses loans are best used when it’s your OWN home and not an investment.
For example. If you can save 500 bucks a month by doing interest only over a typical 30 year and you invest the difference. how much $ would you have.
JUst punch in 500$ as the PAYMENT. 10% (decent interest on an investment in stock) and 360 months as your TIME (or owever long you plan to invest) and you will see that by the time most people would pay off their 30 year mortage, you would have enough cash to write a check for your balance and probably some left over. Do the math…
thats always my point is Option arms are good for investment purposes. As in someone investing the money into something with a higher return. However that is rarely the case. People always seem to look for the lowest payment available and worry about the rest later. As a Loan consultant i always feel its my obligation to do what is in the best interest for a client. rarely do i see a option arm as what is in thier best interest.
Option arms are very dangerous for the client both because of what can happen with the loan terms down the road and because the broker selling them on it if its not right for them.
I agree to a point…I am also working part-time with a consultant firm and options ARM’s and ineterest only loans work great for us. I think the problem is that many companies aren’t “consulting” in the best interest of the client. Most people do look for the lowest payment, without looking at how much house they can actually afford. Theses people need to be educated first but loan officers aren;t in the business of financial education and neither are banks. Which is one of the reasons the company i work for is doing so well. THey educate FIRST and then decide whats best for the client. And since 1996 have yet to have anyone foreclose or even go more than 30 days late.
WOW! The Option ARM is easily the most misunderstood form of real estate financing there is!
No matter what type of financing you choose, you pay interest. On a traditional loan, you pay it monthly. The Option ARM you pay it at sale or refi of the home. That’s the one thing the media never seems to get. You’re still paying the interest, whether you do it month-to-month or on the back.
youngandfit, I’m going to break it down for you. This loan is not for ANYONE who doesn’t have financial responsibility and discipline. Here’s how this program is SUPPOSED to be used. For this example, we will use two borrowers- Billy and Bob. Billy uses your 10-year interest-only, and Bob uses an Option ARM.
They both decide the amount they are comfortable with for the monthly payment. They run this to see what they can AFFORD for a mortgage amount. Then, once Bob has the Option ARM, he pays the lender the deferred interest payment, and takes the difference between that amount and what he would have paid on the fully amortized payment and INVESTS IT with a financial planner. Now, Bob is deferring the interest until the back-end, BUT he’s taking that deferred interest and banking it. While it’s being invested, it’s compounding. Hopefully, Bob is getting at least a 6% return on this account, or he needs to find a different financial planner!
A good Option ARM uses a MTA index rather than a LIBOR, COFI or CODI, as the MTA is a lagging index and is less reactive to the market. In plain English that means it won’t go up or down as much as the others.
If you are using it for an investment property, you take your NET profit after expenses, depreciation, etc. and add that to your monthly investment amount.
In a worst-case scenario then. If the value of the properties plummet, Bob is actually better off than Billy’s traditional fixed-rate loan. Think about it. When he sells or refi’s, Bob not only has the interest that’s been deferred in the investment account, BUT he also has the compounded money to mitigate whatever loss he’s experienced in value on the property. Remember, looking at an amortization table, the amount paid towards principal on a traditional loan the first few years is negligible AND, Billy hasn’t been reducing the principal anyway. So Billy, with the traditional loan, in this plummeted market, has not offset the lower value thru his mortgage payments at all, whereas Bob, with the Option ARM, is in a much better position. Not only that, but what if they experience some kind of catastrophy in their personal live’s or investment property? Bob, with his Option ARM, has MONEY IN THE BANK! He could make payments from that even if he had no tenants for a month or more. Billy has no reserves.
In a best-case scenario, in 5 years they both sell their properties. The value of their properties has gone up. Billy realizes an X amount of profit after paying off the loan balance (Remember, he’s only been paying the interest on the loan, not reducing his principal). Bob realizes a Y amount after paying off his loan, including the deferred interest (which he writes off that tax year). BUT, he takes the increased value figure to make up his deferred interest and STILL has his money in the investment account. Care to guess who’s net worth is higher at the end of the day? No matter how you run this scenario on the calculator programs, Billy loses, Bob laughs all the way to the bank. That, my friend, is how the big investors make more. They leverage their properties to diversify their investments.
Thus endeth the lesson. I hope this opens up some eyes to a new wrinkle in our real estate investment endeavors! :o
Any questions you can direct to me.
BTW, the index is the only thing that adjusts. The margin is set and remains fixed for the life of the loan.
For a start rate of 1.9% you can even get the deferred interest payment fixed for 5 years, which allows for better budgeting of your investment. You know exactly what your cash flow position will be relative to your debt service each month.
There is even a program that will fix the interest rate for 5 years (only one lender does this), but I’ve found the higher accrual rate takes too big a hit from your profit margin.
And yes, I am a lender. I’m also a real estate investor. My family has been in the game since 1976, and operated as a general contractor on all our property renovations. If only we’d had this type of financing all along!
Certified Mortgage Planner
I don’t put my company name, etc. in my signature line. I consider that almost a solicitation. I will provide an e-mail address-
<<I don’t put my company name, etc. in my signature line. I consider that almost a solicitation.>>
It’s not a solicitation and is not a violation of the Forum Rules…
<<I will provide an e-mail address- sylveraj99@XXXX.XXX>>
That however is a violation.
Sorry! Missed that… 50 lashes!
Thank You, rymandev.
I’m glad to see someone actually understands this besides me. The media really does a disservice to people by commenting on things they know nothing about (in this case loans). Glad someone had the patience to right all that out in story form.
I would just like to add one thing, a little trick to pay off your house faster than those who swear by 30yr fixed rate mortages can dream of (if you have the discipline). Lets say you are paying an interest only payment and instead of investing the difference in the stock market you?.. Apply it back towards the principle.
So month after month your principle balance goes DOWN Down down. And the best part is this. On an interest only loan your payment is based on the principle and is recalculated every 30 days (on some loans). So as you apply money towards the principle your I/O payment goes down also.
This means that month after month more money is going towards the principle.