Adjustable-Rate Mortgages Benefits High Debt To Income Ratio Borrowers

0

Adjustable-Rate Mortgages Benefits High Debt To Income Ratio Borrowers

This BLOG On How Adjustable-Rate Mortgages Benefits High Debt To Income Ratio Was UPDATED And PUBLISHED On August 4th, 2019

Adjustable-Rate Mortgages Benefits High Debt To Income Ratio Borrowers

Adjustable-rate mortgages are also referred to as an ARM. ARMs are 30 year term loans but work as follows:

  • Amortized over 30 years
  • Initial fixed rate period such as 5/1 or 7/1 ARM
  • Initial rate on 5/1 ARM is a fixed percentage
    • The 5 stands for initial first 5 years
    • Fixed rate for the first five years
    • Interest rates will adjust every year after the fifth year for the balance of the 30 year ter
  • The period between these rate changes after the fixed rate period is called the “adjustment period.”
  • A loan with an adjustment period of one year is a one-year adjustable-rate mortgage
  • The interest rate and payment can change every year during the adjustment payment period
  • Under a five-year ARM 30-year loan term, mortgages rates are fixed for the first five years fixed-rate period
  • With a 5/1 ARM, the rate will start adjusting on year 6

In this article, we will discuss and cover How Adjustable Rate Mortgages Benefits High Debt To Income Ratio.

Mortgage Rates On ARMs Versus Fixed-Rate Mortgages

Mortgage Rates On ARMs Versus Fixed-Rate Mortgages

Adjustable-Rate Mortgages generally have lower mortgage rates than 30-year fixed-rate mortgages. With lower rates means lower housing payments.

ARMs are highly recommended for the following types of borrowers:

  • First Time Home Buyers purchasing starter home
  • Borrowers with lower credit scores who need to refinance near future
  • Borrowers who cannot qualify for a mortgage due to high debt to income ratio

How To Calculate Adjustable-Rate Mortgages

How To Calculate Adjustable-Rate Mortgages

The primary factors that determine interest rates on adjustable-rate mortgages are as following:

  • ARMs start with a fixed start rate
  • Mortgage Rates will adjust after the initial fixed-rate period
  • Adjusted rates are the sum of the index and the margin
  • Unlike 30-year fixed rate loan where the principal and interest payments remain the same over the term of home loan, ARMs can change year after year after the initial fixed-rate period
  • An index is a variable number that can change
  • The volatility of index depends on which index lender chooses
  • The index is a factor where ARMs is linked to and most lenders will have maximum adjustment and lifetime caps on mortgage rates
  • Margin is a fixed rate over the life of the home loan
  • It is the change in the index that changes the interest rates on adjustable-rate mortgages

Understanding Adjustable-Rate Mortgages

Understanding Adjustable-Rate Mortgages

Understanding Adjustable Rate Mortgages can be confusing. The best way to explain and fully understand ARMs is by using a case scenario:

Here is an illustration on a case scenario on a case scenario where the borrower has very high debt to income ratio and needs to go with an ARM to lower his DTI in order to qualify for a mortgage:

  • 30 year fixed rate is at 5%
  • 5/1 ARM is 4.0%
  • 7/1 ARM is at 4.125%

So if a borrower does not qualify for a mortgage due to high DTI, can we do a 5/1 ARM at 4%?

  • The answer to the above question and case scenario is NO
  • On 5/1 ARMs, lenders will use a qualifying rate versus the note rate
  • Qualifying rate on 5/1 ARMs is taking the note rate of 4% and adding an additional 2% to the note rate which the qualifying rate will be 6%
  • However, borrowers can go for a 7/1 ARM which allows mortgage underwriters to qualify borrowers at the note rate at 4.125%
  • There are no qualifying rates on 7/1 ARMs

The index underlying the ARM is a variable. The margin is constant throughout the term of the mortgage.

Common Indices Used By Lenders On ARM

what are Common Indices Used By Lenders On ARM

The most popular indices most commonly linked to ARMs are the following:

  • Constant Maturity Treasury (CMT)
  • 11th District Cost of Funds Index (COFI)
  • London InterBank Offering Rates (LIBOR)

Not all index rates are the some. Some indexes are higher than other indexes. Many mortgage companies base the margin spread on borrowers credit scores. Higher credit score borrowers will get lower margins. Other mortgage lenders leave the margin constant for all of their borrowers.

Leave A Reply

Your email address will not be published.

CALL NOW