Secrets of the Option ARM Loan

January 19th, 2011 admin


How Does an Option ARM Loan Work?

Option ARM (also called Pick A Payment or Pay Option ARM) loans work by providing the borrower with four payment options each month.

Before we get into the payment options, let’s review some of the important terms and concepts involved with this loan program.

ARM – Adjustable Rate Mortgage. An ARM is a mortgage whose interest rate is raised or lowered at periodic intervals according to the prevailing interest rates in the market. Also called variable-rate mortgage.

Principle – The original amount of money provided in a loan is the principle. This amount, plus the interest accrued must be paid back in full by the end of the loan’s term.

Interest – Interest is the cost paid to borrow the money.

Start Rate – The initial rate of the mortgage. This rate is the rate that the “minimum” payment option is based on. Typically this rate will range from 1-2%.

Amortization – The process of paying down the principle balance of a loan. A fully amortized loan is a loan that will be paid off completely through the monthly payments by the end of the loan’s term.

Negative Amortization – Negative Amortization or “neg am” is the process of adding unpaid interest to the principle balance of the loan. If you make a “minimum payment,” the difference between that payment and the interest only payment will be added to the principal balance of your loan.

Index – An index is a measure of a particular security or other monetary instrument that can be used to adjust interest rates. Index examples include US Treasury Bond valuations, LIBOR (London Inter Bank Offering Rate), COFI (Cost of Funds Index), and MTA (Monthly Treasury Average). Indexes can adjust on a daily basis.

Margin – Margin is the difference between the Index and the rate on a loan.

Fully Indexed Rate – The fully indexed rate is calculated by adding the Index to the Margin. For example, if Libor was 3.0% and the margin on the loan was 2%, the fully indexed rate would be 5% (Index + Margin). The fully indexed rate is the rate that your loan accrues interest at.

Now that we’ve covered the basic terms, let’s examine the four payment options

These payment options are:

1) Minimum Payment

This payment is a 30 year amortized payment based on the start rate of the loan. When the minimum payment is made, the difference between the minimum payment and the interest only payment is added to the principle balance of the loan.

This payment is lowest possible payment and lets you keep more cash in your pocket each month. This payment typically changes annually and is recalculated based on the remaining principal balance of the loan, the remaining loan term, and the current interest rate. A payment cap is usually applied to ensure that they payment does not swing wildly from year to year. A typical payment cap is 7%. For example, if your minimum payment was $1,000 in year one, the most it would be in year two is $1,070 and the least it would be is $930.

2) Interest Only Payment

This payment is based on the fully indexed rate. These payments do not pay down the principal balance of the loan.

In order to avoid deferred interest and negative amortization, each month you will be given the option to make an interest only payment. This allows you the benefit of keeping a low monthly payment and keeps the principal balance of your loan at the same amount.

3) 30 Year Fixed Payment

This payment is based on the fully indexed rate. These payments do pay down the principal balance of the loan.

It’s calculated each month based on the prior month’s interest rate, loan balance and remaining loan term. When you choose this option, you reduce your principal and pay off your loan on schedule.

4) 15 Year Fixed Payment

ly indexed rate. These payments do pay down principal balance of the loan.

If you want to build equity faster, pay off your loan quicker and save on interest, this is the option for you. It’s calculated to amortize your loan based on a 15-year term from the first payment due date.

Let’s take a look at a couple of examples.

Example 1:

$250,000 Loan Amount – 1.25% Start Rate – 5.5% Fully Indexed Rate

Payment #1 (Minimum Payment) – $833.13

Payment #2 (Interest Only Payment) – $1,145.83


By: Joe Ramirez

About the Author:
Joe Ramirez and HomeLoanInfoCenter.net put today’s confusing loan programs into easy to understand terms. Run your own loan scenarios with a free copy of our Pay Option ARM Calculator.



Simple Interest Rate Amortization Schedules Explained

January 19th, 2011 admin


Amortization schedules are important simply because they show you how each mortgage payment breaks down into its two parts, principal and interest. With this knowledge, you can adjust your payments to include future principal payments which in turn will save you from paying their corresponding interest payments.

This means if a particular payment is split up in such a way that requires $200 in principal and $1000 in interest be paid, you can save the $1,000 by paying the $200 before this payment is due. In making these types of adjustments, you can save tens of thousands of dollars because you will economically be shortening the term of the mortgage.

Simple Interest Vs. Compounded Interest

I have been asked about simple interest amortization schedules. They’re really isn’t too much to explain. The opposite of simple interest is compounded interest. No compounding takes place in the paying of a mortgage. So, all amortization schedules are simple interest. Let’s prove this supposition.

On a $200,000 mortgage at six percent for two years, we can see when looking at this mortgage’s amortization table, the 25th payment has a principal due of $224.42. When we look at the 26th payment we can see that the interest due is $974.68. The total amount due on the mortgage before the 25th payment is paid is $194,936.47. To borrow this amount of money for one month would cost $974.68.

How do we know this? One way is to look at the amortization table and see what the interest is on the 25th payment. Another way to find out would be to calculate this longhand. Here’s how to do that:

$194,936.47 times 6% divided by 12 equals $974.68. Take note that six percent divided by 12 gives us the interest rate for one month. You can easily see there is no compounding taking place here. Here’s what would happen if compounding took place. The amount due monthly on the same mortgage is $1,199.10. If you were to pay this amount of money each month into a savings account whose interest compounded monthly, after 28 years your investment would be $1,046,459.33.

The significance of 28 years is that it is the amount of time from the end of the loan working backward until the 25th payment is due. At the time of this payment, as we previously discussed, the amount due on the mortgage is $194,936.47. So this proves amortization schedules are simple interest.

Interest Only Amortization

Sometimes people mistakenly use the term simple interest when they are referring to interest only. With an interest only loan, no amortization takes place. For instance, $200,000 borrowed at six percent on an interest only loan would require a payment of $1,000 each month. This $1,000 would pay nothing toward the principal, so the loan would not be amortizing. In other words, at the end of any time period from one month until infinity, the amount of principal owed would always be $200,000.

Variable Rate Mortgage Amortization

Another case in mistaken identity is referring to a simple interest amortization schedule when a person wants to refer to an amortization table for fixed interest rate mortgages opposed to a variable interest rate mortgage.

To make an amortization table for a variable interest rate mortgage, you would have to know exactly what the interest rate would be at each point throughout the term of the loan. This is impossible because variable interest rate mortgages are built on the premise the mortgage rate could go up or down. Therefore, there is no such thing as a variable rate amortization table.

So a simple interest rate amortization table is the only amortization schedule available and it is a very important piece of mathematical equations. Knowing how to use it can save you a lot of money on your mortgage. Here’s one way:

Look at the principle on the payment at the halfway point of the schedule. This would be payment number 181 on a thirty-year mortgage. Here, you would look at the principle part of the payment. If you took this amount of money and added it to each monthly payment, your mortgage would be paid in half the time.

By: Edward Lathrop

About the Author:
The author, Ed Lathrop has built a website that will build and let you print out as many amortization schedules for as many loans or mortgages as you would like. This is a free Website and can be found at: Amortization Schedules Free. Also, visit Amortization Chart Printable.



The Defining of a Balloon or Reset Mortgage

January 18th, 2011 admin


A balloon or reset mortgage loan is an option you may want to consider when you are shopping for the correct type of mortgage for your requirements. The balloon or reset mortgage loans usually have monthly mortgage payments based on a 30-year amortization schedule although you can choose to reset your mortgage loan at current rates. This type of mortgage loan is sometimes thought of as a two-step mortgage. This is due to the fact that you have the advantage of a low monthly payment, as someone with a 30-year mortgage, but you must pay the loan off at the end of a specified term. Also, you may choose to utilize your reset option at the end of the term.

With this type of mortgage you can reset your mortgage interest rate at the market rate for the remainder of the amortization period. Many balloon mortgage loans have this reset option but it is usually only available if you meet the following requirements:

1) you are still the owner and occupant of the home;
2) you have paid your mortgage loan payments on time for at least one year prior to the balloon note maturity date;
3) there are no other liens against the home or property; and
4) you’ve satisfied any other conditions of the reset option.

There are many additional considerations to be aware of before you decide to choose a balloon/reset mortgage. One of the benefits of this type of mortgage is that you may qualify to refinance your balloon/reset mortgage loan. One additional consideration you should make would be if you sell your home before the maturity date of the balloon/reset mortgage loan this type of mortgage loan may be a good option for you. You should keep in mind though that if you end of staying in your home when the loan matures, you will need to reset or refinance the mortgage.

Another consideration is that balloon/reset mortgage loans usually come with a slightly lower initial rate than most other mortgage types. This may mean that with a balloon/reset mortgage you possibly could qualify for a larger loan amount than you could with some other types of mortgage loans, such as an ARM or a fixed-rate mortgage loan. Also, if the interest rates increase during the term of your balloon/reset mortgage loan, you may have a larger increase in your monthly mortgage payments when you reset or refinance your mortgage.

If you a considering a balloon/reset mortgage it would be in your best interests to research this option and compare against other types of mortgage loans on the internet. The internet makes is exceptionally easy to comparison shop and will help you make the correct decision in this area thereby decreasing the chances of you having unexpected financial problems in the future with your mortgage loan choice.

By: Addison Holmes

About the Author:
Addison Holmes is really into everything about homes, mortgages, loans, and the statistics that come along with them. He wants to show and inform everyone of his wide array of information to help people get the best possible deals, rates, tips, and more. If you are looking for more info, visit Atlanta Mortgage Loans or Tampa Home Mortgage to find everything else you need to know about these topics.



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