Adjustable (ARM) Loan Resets Cause Foreclosures – Fact or Fiction?
Saint Paul, Minnesota: Requests for adjustable mortgage loans dropped to near zero the past few years because of the general belief that adjustable loans are bad, and that recent high levels of foreclosures was because homeowners were doing fine with their loans until their adjustable loans reset to higher rates.
Lenders are again starting to see inquiries about, and home buyers again taking adjustable rate loans because of the super low adjustable loan rates.
FACTS VERSUS FICTION: According to recent nationwide data, the number one reason homeowners default on their home loans was because their income was cut. This accounted for just under 60% of loans in default. Once traditional causes of foreclosure are factored in (divorce, major illness), cash flow problems added up to a whopping 80% of all “causes” of defaulted mortgages nationwide.
Adjustable payment loans resetting to a higher payment alone accounted for just 2%, according to the data. Rather than being the cause, they appear to be the final straw that breaks the camels back of people who were already in financial trouble.
ADJUSTABLE RATE MORTGAGES: Adjustable Rate Mortgages (ARMs) became one of the most popular and effective tools for helping some prospective homebuyers achieve their dream of homeownership between 2000 and 2007. Initially developed during a time of high interest rates that kept many people out of the housing market, the ARM offers lower initial interest rates by sharing the future risk of higher rates between borrower and lender.
IS AN ADJUSTABLE MORTGAGE RIGHT FOR YOU? Talk to a local licensed Loan Officer (not an unlicensed bank application clerk) about the benefits. ARMs can be an excellent choice of financing under certain conditions, such as rising income expectations, high interest rates, and short-term homeownership plans. But because payments and interest rates can increase, either steadily or irregularly, homebuyers considering this kind of home mortgage loan need to have the income to keep up with all possible rate and/or payment changes. Each ARM has four basic components:
- Initial interest rate, which is typically one to three percentage points lower than that of most fixed rate mortgages.
- Adjustment interval, at the time between changes in the interest rate and/or monthly payment will be.
- Index, what lenders use to determine future rate changes. This is usually LIBOR.
- Margin, or the additional amount the lender adds to the index to establish the adjusted interest rate on an ARM.
Typical adjustable loans come in 1-year, 3-year, 5-ya, 7-year, and 10-year initial fixed term options. The 5-year adjustable is super popular. The rate is fixed for the first five years of the loan, then becomes adjustable on a yearly basis.