What kind of mortgage makes sense for me?

What-kind-of-mortgageIt depends on how much you need to borrow and how long you're likely to own the house. Ask your financial planner or tax accountant to crunch the numbers for you.

 The granddaddy of all mortgages is a 30 year fixedrate loan. You pay a higher interest rate on a fixedrate mortgage than on an adjustable-rate mortgage (ARM), but you have the security of a totally predictable monthly cost. Fixed-rate mortgages typically are available for 10-, 15-, or 30-year terms. The longer the term, the smaller your monthly payments, but the greater the total amount of interest you'll pay over the life of the loan.

 An ARM has a lower initial interest rate, which means you can borrow more; but your interest rate and your monthly mortgage payment will move up and down in line with a short-term index, like the rate on one-year Treasury bills, for example. With an ARM, you benefit from any drop in interest rates without having to refinance your mortgage. But you're also exposed to any increase in rates.

 In general, an ARM is attractive for buyers who expect to own a house for only a few years. The longer you plan to stay in the house, the greater your exposure to interest rate risk and the better off you are with a fixed mortgage especially ifyou can lock in a low rate.

 A Pleasantville, New York, mortgage consultant. "But if fixed-rate mortgages are above 8 percent, you're almost certain to get the chance to refinance your mortgage at a lower rate down the road. So why not save money until then by taking an adjustable-rate mortgage?

" The beauty of ARMs is that they offer a combination of fixed and adjustable rates. A 10-year ARM, for example, in reality is a fixed-rate loan for the first 10 years and is then adjusted annually for the next 20 years.

ARMs come in a wide variety of terms, including seven-, five-, three-, and one-year periods.

 Comparison shopping is essential. There are six basic questions to ask mortgage lenders once you've decided an ARM is for you:

 1 How often does the rate change after the mortgage becomes adjustable?

This matters if you plan to keep the mortgage beyond the initial fixed term. Typically, the ARM rate changes annually, but the adjustment period can range from six months to several years. A three-year ARM is widely available in two flavors, for example. One has a fixed rate for three years and then is adjusted annually; the other is fixed for three years and is then adjusted every three years.

 2 What's the benchmark used to set the rate?

The one year Treasury bill is a common benchmark, for example.

 3 What's the margin, i.e., the number of points that are added to the benchmark to determine your interest rate?

 The typical margin is 2 or 3 percent. If the benchmark is 5 percent and the margin is 3 percent, your interest rate will be 8 percent.

 4 What's the ARM cap, i.e., the most your rate can rise or fall with each adjustment?

Typically, ARMs have a 2 percent one-year cap and a 6 percent lifetime cap.

5 How long does the introductory interest rate last?

 Some lenders offer very low teaser rates. If you know what it is, at least you won't be taken by surprise when the introduction is over.

 6 Is negative amortization possible with this loan?

 Some ARMs are sold with the assurance that your monthly payments can never go above a stated amount, no matter what happens to interest rates. That sounds great, but there's a huge potential cost: If your capped monthly payments are too low to cover the interest required to pay off the loan, whatever you should have paid but didn't is added to the original loan.

 The result: Instead of reducing your outstanding mortgage, your monthly payments actually increase it.

 Your mortgage interest is the price of the loan but it may not be the only price. You may also pay 'points'an additional upfront payment in return for which you get a lower interest rate. One point is equal to 1 percent of the loan amount. Two points on a $100,000 mortgage would be $2,000, for example. On a fixed-rate mortgage, the more points you pay, the lower the interest rate for the life of the loan. On an ARM, points can lower the lifetime cap on your loan as well as the initial rate.
 Experts,advises against paying points if you'll own the house for only five years or less, or if interest rates are above 8 percent, making it likely that you'll be able to refinance at a lower rate within five years.

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