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ABOUT LOAN
PROGRAMS
Choosing a Loan Program
Conventional and Jumbo Loans
Subprime Loans
Fixed Rate Mortgages
Adjustable Rate Mortgages (ARMs)
Introductory Rate ARMs
Standard ARMs and the Differences
COFI Index
LIBOR Index
Balloon Mortgages
Graduated Payment Mortgages (GPMs)
Interest Rate Buydowns
Reverse Mortgages
Commercial Loans
Choosing a
Loan Program
There isn't a
single or simple answer to this question. The right type of
mortgage for you depends on many different factors:
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Your current financial picture
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How you
expect your finances to change
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How long
you intend to keep your house
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How
comfortable you are with your mortgage payment changing
For example, a 15-year fixed rate mortgage can save you many
thousands of dollars in interest payments over the life of the
loan, but your monthly payments will be higher. An adjustable
rate mortgage may get you started with a lower monthly payment
than a fixed rate mortgage, but your payments could get higher
when the interest rate changes.
The best way to find the "right" answer is to discuss your
finances, your plans and financial prospects, and your
preferences frankly with a mortgage professional.
Conventional
and Jumbo Loans
Conventional
loans are secured by government sponsored entities or GSEs
such as Fannie Mae and Freddie Mac. Conventional loans can be
made to purchase or refinance homes with first and second
mortgages on single family to four family homes.
In general, Fannie Mae and Freddie Mac's single family, first
mortgage loan limit is $417,000 in 2007. This limit is
reviewed annually and, if needed, changed to reflect changes
in the national average price for single family homes. The
current loan limit applies to all conventional mortgages
delivered after January 1, 2007.
2004 Conventional Loan Limits
First mortgages
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One-family
loans: $417,000
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Two-family
loans: $533,850
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Three-family loans: $645,300
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Four-family
loans: $801,950
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Note:
Maximum original loan amounts are 50 percent higher for
first mortgages on properties in Alaska, Hawaii, Guam and
the U.S. Virgin Islands.
Second Mortgages
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$208,500
(in Alaska, Hawaii, and the US Virgin Islands: $312,750)
Loans which are larger than the limits set by Fannie Mae and
Freddie Mac are called jumbo loans. Because jumbo loans are
not funded by these government sponsored entities, they
usually carry a higher interest rate and some additional
underwriting requirements. A strategy to lower your overall
interest payments if your purchase or refinance balance is
above $417,000 is to use a combination of both first and
second trust money, referred to as an 80/10/10, 80/15/5 or
80/20. Every situation is different, but it is one more option
to consider.
In addition to common loan structures such as fixed rate,
adjustable rate and balloon loans, Fannie Mae and Freddie Mac
also have loan programs for low to no down payments, community
lending and affordable housing initiatives, construction to
permanent, home improvement and reverse mortgages.
Subprime
Loans
If you have
bad credit, you may not qualify for a conventional loan or a
low down payment loan offered by FHA and VA. In this case, you
may consider a subprime mortgage. Because of the higher risk
associated with lending to borrowers that have a poor credit
history, subprime loans typically require a larger down
payment and a higher interest rate.
You should study the specific terms of a subprime loan that
you qualify for to determine if it is a loan that will help
your financial situation. Subprime loans are one way for you
to get into the home you want at today's price. If you already
own a home, a subprime loan can give you an opportunity to
clean up your credit and ultimately refinance into a lower
rate at a later time. If you have a mortgage, you can look at
refinancing more than what you currently owe on the house and
get cash back for the equity you already have in the home.
This cash out could be used to pay off higher rate credit
cards, bankruptcy, foreclosure or collections and liens. It
could be a good way to clean up a troubled credit history,
save money each month and start rebuilding your credit
worthiness.
Whether for a purchase or refinance, subprime loans should
typically be used as a short term solution, approximately 2-4
years. During that time, you can work to clean up your credit
and qualify or a refinance into a lower risk, lower rate loan.
Prior to 1990 it was very difficult for anyone to obtain a
mortgage if they did not qualify for a conventional, FHA or VA
loan. Subprime loans were developed to help higher risk
borrowers obtain a mortgage. Many borrowers with bad credit
are good people who honestly intended to pay their bills on
time. Catastrophic events such as the loss of a job or a
family illness can lead to missed or late payments or even
foreclosure and bankruptcy. Now there are mortgage companies
that take into consideration events outside the borrower's
control, but not without a price.
Lenders are compensated for risk in the form of interest
rates. The higher the lender perceived its risk to be, the
higher the rate they will charge for the privilege of
borrowing their money. The lower the risk, the lower the rate.
Several risk factors are taken into consideration when
evaluating a borrower for a subprime mortgage, the most
important being your payment and credit history.
Your debt to income level, employment history, type of
property and assets are other factors that are taken into
consideration when determining if you qualify for a
conventional, government or subprime loan.
Fixed Rate
Mortgages
The most
common type of mortgage program where your monthly payments
for interest and principal never change. Property taxes and
homeowners insurance may increase, but generally your monthly
payments will be very stable.
Fixed rate mortgages are available for 30 years, 20 years, 15
years and even 10 years. There are also "biweekly" mortgages,
which shorten the loan by calling for half the monthly payment
every two weeks. (Since there are 52 weeks in a year, you make
26 payments, or 13 "months" worth, every year.)
Fixed rate fully amortizing loans have two distinct features.
First, the interest rate remains fixed for the life of the
loan. Secondly, the payments remain level for the life of the
loan and are structured to repay the loan at the end of the
loan term. The most common fixed rate loans are 15 year and 30
year mortgages.
During the early amortization period, a large percentage of
the monthly payment is used for paying the interest. As the
loan is paid down, more of the monthly payment is applied to
principal. A typical 30 year fixed rate mortgage takes 22.5
years of level payments to pay half of the original loan
amount.
Adjustable
Rate Mortgages (ARMs)
These loans
generally begin with an interest rate that is 2-3 percent
below a comparable fixed rate mortgage, and could allow you to
buy a more expensive home.
However, the interest rate changes at specified intervals
(for example, every year) depending on changing market
conditions; if interest rates go up, your monthly mortgage
payment will go up, too. However, if rates go down, your
mortgage payment will drop also.
There are also mortgages that combine aspects of fixed and
adjustable rate mortgages - starting at a low fixed rate for
seven to ten years, for example, then adjusting to market
conditions. Ask your mortgage professional about these and
other special kinds of mortgages that fit your specific
financial situation.
Introductory
Rate ARM's
Most
adjustable rate loans (ARMs) have a low introductory rate or
start rate, some times as much as 5.0% below the current
market rate of a fixed loan. This start rate is usually good
from 1 month to as long as 10 years. As a rule the lower the
start rate is the shorter the time before the loan makes its
first adjustment.
Index
The index of an ARM is the financial instrument that the loan
is "tied" to, or adjusted to. The most common indices are the
1-Year Treasury Security, LIBOR (London Interbank Offered
Rate), Prime, 6-Month Certificate of Deposit (CD) and the 11th
District Cost of Funds (COFI). Each of these indices move up
or down based on conditions of the financial markets.
Margin
The margin is one of the most important aspects of ARMs
because it is added to the index to determine the interest
rate that you pay. The margin added to the index is known as
the fully indexed rate. As an example if the current index
value is 5.50% and your loan has a margin of 2.5%, your fully
indexed rate is 8.00%. Margins on loans range from 1.75% to
3.5% depending on the index and the amount financed in
relation to the property value.
Interim Caps
All adjustable rate loans carry interim caps. Many ARMs have
interest rate caps of six months or a year. There are loans
that have interest rate caps of three years. Interest rate
caps are beneficial in rising interest rate markets, but can
also keep your interest rate higher than the fully indexed
rate if rates are falling rapidly.
Payment Caps
Some loans have payment caps instead of interest rate caps.
These loans reduce payment shock in a rising interest rate
market, but can also lead to deferred interest or "negative
amortization.” These loans generally cap your annual payment
increases to 7.5% of the previous payment.
Lifetime Caps
Almost all ARMs have a maximum interest rate or lifetime
interest rate cap. The lifetime cap varies from company to
company and loan to loan. Loans with low lifetime caps usually
have higher margins, and the reverse is also true. Those loans
that carry low margins often have higher lifetime caps.
Standard ARMS
and the Differences
A few options are available to fit your individual needs and
your risk tolerance with the various market instruments.
ARMs with different indexes are available for both purchases
and refinances. Choosing an ARM with an index that reacts
quickly lets you take full advantage of falling interest
rates. An index that lags behind the market lets you take
advantage of lower rates after market rates have started to
adjust upward.
The interest rate and monthly payment can change based on
adjustments to the index rate.
6-Month Certificate of Deposit (CD) ARM
This program has a maximum interest rate adjustment of 1%
every six months. The 6-month Certificate of Deposit (CD)
index is generally considered to react quickly to changes in
the market.
Cost of Funds
Index (COFI)
The 11th
District Cost of Funds is more prevalent in the West and the
1-Year Treasury Security is more prevalent in the East. Buyers
prefer the slowly moving 11th District Cost of Funds and
investors prefer the 1-Year Treasury Security.
The monthly weighted average 11th District has been published
by the Federal Home Loan Bank of San Francisco since August
1981. Currently more than one half of the savings institutions
loans made in California are tied to the 11th District Cost of
Funds (COFI) index.
The Federal Home Loan Bank's 11th District is comprised of
saving institutions in Arizona, California and Nevada.
Few people who use and follow the 11th District Cost of Funds
understand exactly how it is calculated, what it represents,
how it moves and what factors affect it.
The predecessor to the 11th District Cost of Funds index was
the District semiannual weighted average cost of funds
published for a six month period ending in June and December.
The San Francisco Bank was the first Federal Home Loan Bank to
publish a monthly cost of funds index.
The funds used as a basis for the calculation of the 11th
District Cost of Funds index are the liabilities at the
District savings institutions: money on deposit at the
institutions, money borrowed from a Federal Home Loan Bank
(known as advances) and all other money borrowed. The interest
paid on these types of funds is the cost of these funds.
The ratio of the dollar amount paid in interest during the
month to the average dollar amount of the funds for that month
constitutes the weighted average cost of funds ratio for that
month.
The average cost of funds is said to be weighted because the
three kinds of funds and their costs are added together before
a ratio is computed rather than calculating averages
individually for the three sources and using a simple average
of the three ratios. This gives the greatest weight to the
interest paid on deposits, and explains the delayed reaction
of the index to rising fixed rate mortgages.
London
InterBank Offered Rate (LIBOR)
LIBOR is the
rate on dollar-denominated deposits, also know as Eurodollars,
traded between banks in London. The index is quoted for one
month, three months, six months as well as one-year periods.
LIBOR is the base interest rate paid on deposits between
banks in the Eurodollar market. A Eurodollar is a dollar
deposited in a bank in a country where the currency is not the
dollar. The Eurodollar market has been around for over 40
years and is a major component of the International financial
market. London is the center of the Euromarket in terms of
volume.
The LIBOR rate quoted in the Wall Street Journal is an
average of rate quotes from 16 major banks.
The most common quote for mortgages is the 6-month quote.
LIBOR's cost of money is a widely monitored international
interest rate indicator. LIBOR is currently being used by both
Fannie Mae and Freddie Mac as an index on the loans they
purchase.
LIBOR is quoted daily in the Wall Street Journal's Money
Rates and compares most closely to the 1-Year Treasury
Security index.
Balloon
Mortgages
Balloon loans
are short term mortgages that have some features of a fixed
rate mortgage. The loans provide a level payment feature
during the term of the loan, but as opposed to the 30 year
fixed rate mortgage, balloon loans do not fully amortize over
the original term. Balloon loans can have many types of
maturities, but most balloons that are first mortgages have a
term of 5 to 7 years.
At the end of the loan term there is still a remaining
principal loan balance and the mortgage company generally
requires that the loan be paid in full, which can be
accomplished by refinancing. Many companies have other options
such as a conversion feature at the end of the term. For
example, the loan may convert to a 30 year fixed loan at the
thirty year market rate plus 3/8 of a percentage point. Your
conversion can be guaranteed based on certain criteria such as
having made your last 24 payments on time. The balloon
mortgage program with the conversion option is often called a
7/23 Convertible or 5/25 Convertible.
Graduated
Payment Mortgage (GPM)
The GPM is
another alternative to the conventional adjustable rate
mortgage, and is making a comeback as borrowers and mortgage
companies seek alternatives to assist in qualify for home
financing
Unlike an ARM, GPMs have a fixed note rate and payment
schedule. With a GPM the payments are usually fixed for one
year at a time. Each year for five years the payments graduate
at 7.5% - 12.5% of the previous years payment.
GPMs are available in 30 year and 15 year amortization, and
for both conforming and jumbo loans. With the graduated
payments and a fixed note rate, GPMs have scheduled negative
amortization of approximately 10% - 12% of the loan amount
depending on the note rate. The higher the note rate the
larger degree of negative amortization. This compares to the
possible negative amortization of a monthly adjusting ARM of
10% of the loan amount. Both loans give the consumer the
ability to pay the additional principal and avoid the negative
amortization. In contrast, the GPM has a fixed payment
schedule so the additional principal payments reduce the term
of the loan. The ARMs additional payments avoid the negative
amortization and the payments decrease while the term of the
loan remains constant.
The scheduled negative amortization on a GPM differs
depending on the amortization schedule, the note rate and the
payment increases of the loan. GPM loans with 7.5% annual
payment increases offer the lowest qualifying rate but the
largest amount of negative amortization.
On a loan of $150,000, with a 30 year amortization and a note
rate of 10.50% with 12.5% annual payment increases, the
negative amortization continues for 60 months. The qualifying
rate is 5.75% and the negative amortization is 11.34%
(approximately $17,010).
The note rate of a GPM is traditionally .5% to .75% higher
than the note rate of a straight fixed rate mortgage. The
higher note rate and scheduled negative amortization of the
GPM makes the cost of the mortgage more expensive to the
borrower in the long run. In addition, the borrowers monthly
payment can increase by as much as 50% by the final payment
adjustment.
The lower qualifying rate of the GPM can help borrowers
maximize their purchasing power, and can be useful in a market
with rapid appreciation. In markets where appreciation is
moderate, and a borrower needs to move during the scheduled
negative amortization period they could create an unpleasant
situation.
Interest Rate
Buy Downs
The most
common buy down is the 2-1 buy down. In the past, for a buyer
to secure a 2-1 buy down they would pay 3 points above current
market points in order to pay a below market interest rate
during the first two years of the loan. At the end of the two
years they would then pay the old market rate for the
remaining term.
As an example, if the current market rate for a conforming
fixed rate loan is 8.5% at a cost of 1.5 points, the buy down
gives the borrower a first year rate of 6.50%, a second year
rate of 7.50% and a third through 30th year rate of 8.50% and
the cost would be 4.5 points. Buy downs were usually paid for
by a transferring company because of the high points
associated with them.
In today's market, mortgage companies have designed
variations of the old buy downs rather than charge higher
points to the buyer in the beginning they increase the note
rate to cover their yields in the later years.
As an example, if the current rate for a conforming fixed
rate loan is 8.50% at a cost of 1.5 points, the buy down would
give the buyer a first year rate of 7.25%, a second year rate
of 8.25% and a third through 30th year rate of 9.25%, or a
three quarter point higher note rate than the current market
and the cost would remain at 1.5 points.
Another common buy down is the 3-2-1 buy down which works
much in the same ways as the 2-1 buy down, with the exception
of the starting interest rate being 3% below the note rate.
Another variation is the flex fixed buy down program that
increase at six month interval rather than annual intervals.
As an example, for a flex fixed jumbo buy down at a cost of
1.5 points, the first six months rate would be 7.50%, the
second six months the rate would be 8.00%, the next six months
rate would be 8.50%, the next six months rate would be 9.00%,
the next six months the rate would be 9.50% and at the 37th
month the rate would reach the note rate of 9.875% and would
remain there for the remainder of the term. A comparable jumbo
30 year fixed at 1.5 points would be 8.875%.
Reverse
Mortgages
A reverse mortgage is a special type of loan made to older
homeowners to enable them to convert the equity in their home
to cash to finance living expenses, home improvements, in home
health care, or other needs.
With a reverse mortgage, the payment stream is "reversed."
That is, payments are made by the lender to the borrower,
rather than monthly repayments by the borrower to the lender,
as occurs with a regular home purchase mortgage.
A reverse mortgage is a sophisticated financial planning tool
that enables seniors to stay in their home or "age in place"
and maintain or improve their standard of living without
taking on a monthly mortgage payment. The process of obtaining
a reverse mortgage involves a number of different steps.
The first most widely available reverse mortgage in the
United States was the federally insured Home Equity Conversion
Mortgage (HECM), which was authorized in 1987.
A reverse mortgage is different from a home equity loan or
line of credit, which many banks and thrifts offer. With a
home equity loan or line of credit, an applicant must meet
certain income and credit requirements, begin monthly
repayments immediately, and the home can have an existing
first mortgage on it. In addition, there is no restriction on
the age of borrowers.
In general, reverse mortgages are limited to borrowers 62
years or older who own their home free and clear of debt or
nearly so, and the home is free of tax liens.
Borrowers usually have a choice of receiving the proceeds
from a reverse mortgage in the form of a lump sum payment,
fixed monthly payments for life, or line of credit. Some types
of reverse mortgages also allow fixed monthly payments for a
finite time period, or a combination of monthly payments and
line of credit. The interest rate charged on a reverse
mortgage is usually an adjustable rate that changes monthly or
yearly. However, the size of monthly payments received by the
senior doesn't change.
Some reverse mortgage products also involve the purchase of
an annuity that can assure continued monthly income to the
senior homeowner even after they sell the home.
The size of reverse mortgage that a senior homeowner can
receive depends on the type of reverse mortgage, the
borrower's age and current interest rates, and the home's
property value. The older the applicant is, the larger the
monthly payments or line of credit. This is because of the use
of projected life expectancies in determining the size of
reverse mortgages.
Seniors do not have to meet income or credit requirements to
qualify for a reverse mortgage.
Unlike a home purchase mortgage or home equity loan, a
reverse mortgage doesn't require monthly repayments by the
borrower to the lender. A reverse mortgage isn't repayable
until the borrower no longer occupies the home as his or her
principal residence.
This can occur if the sole remaining borrower dies, the
borrower sells the home, or the borrower moves out of the
home, say, to a nursing home.
The repayment obligation for a reverse mortgage is equal to
the principal balance of the loan, plus accrued interest, plus
any finance charges paid for through the mortgage. This
repayment obligation, however, can't exceed the value of the
home.
The loan may be repaid by the borrower or by the borrower's
family or estate, with or without a sale of the home. If the
home is sold and the sale proceeds exceed the repayment
obligation, the excess funds go to the borrower or borrower's
estate. If the sales proceeds are less than the amount owed,
the shortfall is usually covered by insurance or some other
party and is not the responsibility of the borrower or
borrower's estate. In general, the repayment obligation of the
borrower or borrower's estate can't exceed the value of the
property.
In general, a borrower can't be forced to sell their home to
repay a reverse mortgage as long as they occupy the home, even
if the total of the monthly payments to the borrower exceeds
the value of the home.
Commercial Loans and Further
Links are Currently Under Re-Construction
Commercial Underwriting Guidelines
Commercial Financing is underwritten
on a case by case basis. Every loan application is unique and
evaluated on its own merits, but there are a few common
criteria lenders look for in commercial loan packages.
Commercial Lending Ratios
Most of real estate lending can be boiled down to the results
of three ratios, which are described in this article.
Commercial Loan to Value Ratios
The loan-to-value (LTV) ratio is
probably the most important of the 3 underwriting ratios.
Commercial Debt Ratios
When analyzing the personal budget of a borrower, lenders use
two different debt ratios to determine if the borrower can
afford his obligations.
Commercial Debt Service Ratio
The most important ratio to understand when making income
property loans is the debt service coverage ratio.
Commercial Property Types
Listed in this article is a partial list of properties that
require commercial financing.
Questions to Ask Yourself
This article poses several questions related to commercial
financing.
Ten Myths and Facts about SBA
This article separates commercial lending facts from myths.
Commercial Loan Checklist
This list will help you identify the types of information a
banker will need to make an informed decision about your
business.
Financing Options
Research credit lines and other financing approaches.
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