Did you know you could get an adjustable rate mortgage through the FHA-insured loan program? ARMs are a dirty word in the media today. As millions of homeowners have their ARM rates adjusted, the press peddles fear, causing new home buyers to overpay on the FHA home loans.
Let's look at my favorite, the FHA JUMBO 5-year ARM at 5.625% versus the FHA JUMBO 30 Year fixed rate mortgage at 6.375%. That's a .75% difference in rate and for a JUMBO loan, that adds up to some substantial savings! On a $600,000 mortgage, the interest savings, over the five year period, is over $20,000; that's the price of a low mileage, gently-used BMW.
The risk of a five year ARM is the reset. If you funded a FHA JUMBO 5-year ARM today, the rate (and payment) would adjust in January, 2014. The risk, however, is nowhere near the reset risk of yesterday's Alt-A and sub-prime home loans. Rate adjustments are based on two factors: index and margin. FHA loans can be offered with a LIBOR or Treasury Index and have margins that range from 2.25% to 2.75%. Peter G. Miller, syndicated columnist, believes the lowest margin may be the best choice:
While indexes move up and down, you at least want to compare the LIBOR and Treasury measures. If the LIBOR margin is within .25 to .50 of the Treasury index, then either index might be attractive. But if the margin gap is more than .25 to .50, then you might favor the Treasury index, if the margin is less than .25 to .50 then the LIBOR might be a better choice.
The view here is that a lower margin is best because the margin is fixed for the life of the loan. That said, who knows how indexes will move in the future?
The other risk for a rate adjustment is the "cap". Simply put, a "rate cap" is the maximum allowable adjustment, up or down, for the rate (and payment) when the five year period is up. FHA loans have two interest rate cap structures: a 1/5 for 3-year ARM periods or a 2/6 for longer periods.
In our example, if we obtained a 5/1 FHA JUMBO ARM at 5.625%, the rate could adjust as high as 7.625%, in 2014. It could adjust as high as 11.625%, if interest rates went straight up for eight years (and never came down). If that were to happen, bank savings' rates would skyrocket from today's 3% to over 9%. There IS a silver lining amidst any storm cloud.
FHA loans are easy to refinance. The FHA streamlined refinance program allows for a homeowner to refinance her FHA loan with no income or asset documentation. This common-sense approach grants a FHA loan approval if the homeowner can demonstrate that her last twelve mortgage payments were timely. It can even be offered without an appraisal.
In California, the average hold time for a home is 5-7 years. This means that the average Californian will most likely sell his home during that period. If you're a first-time homebuyer, chances are that you're leaving a LOT of money on the table by insisting on a FHA JUMBO 30 year loan rather than a 5-year ARM. Do your homework and compare costs.
