Mortgage Refinance Guide

If you are in the process of refinancing and are considering interest only mortgages, there are several things you should know to reduce your risk. Interest only mortgages are suitable for homeowners that need a low monthly payment for a short period of time; however, these loans are often abused by people who don’t understand how they work. Here are a several tips to help you decide if refinancing with interest only mortgages is right for you.

Adjustable Rate Mortgages 101

Interest only mortgages are a type of Adjustable Rate Mortgage. These loans are called “adjustable” because the lender periodically changes the interest rate to the loan’s index plus their margin. Adjustable Rate Mortgages are based on a number of different indexes ranging from the Federal T-bills to the London Interbank Offered Rate Index. The index that your interest only mortgage is tied to will be specified in your loan contract. Margin is your lender’s markup of the index for a profit; the amount of margin on your loan is determined by your credit and the lender you have chosen. When shopping for any Adjustable Rate Mortgage it is important to compare the margin from one lender to the next because this markup has an impact on your monthly payment amount.

Interest Only Adjustable Rate Mortgages

Interest only mortgages are a special type of Adjustable Rate Mortgage where your payment amount in the beginning is based only on the amount of interest due that month. Because you’re only paying the interest due, during the interest-only period you will not pay down any of your loan balance. What many homeowners don’t realize is that the interest only period does not last forever. Eventually the lender is going to want their money back and when this happens your mortgage payments will go up.

The length of your interest-only period is specified in your loan contract and typically lasts for up to five years. When the lender resets your loan you will have a mortgage payment amortized for the time remaining in your loan contract. Suppose for example that you take out a 30 year, interest only adjustable rate mortgage with a 5 year interest only period. At the end of the interest only period your payments will be based on a repayment period of 25 years. This means your payments will be much higher than a standard 30 year, adjustable rate mortgage.

As long as your budget can support the new, higher payment amount you shouldn’t have a problem when the lender resets your mortgage. Payment shock occurs for homeowners who are not expecting the higher payment because they don’t understand how interest only mortgages work and their budgets cannot support the payments. If you find yourself in this situation you could be facing foreclosure in as little as 120 days if your mortgage payment becomes too much to manage.

Refinancing as an Option

At the end of your interest only period you do have the option of refinancing before your payments go up. By choosing another interest only mortgage or opting for a less risky hybrid adjustable rate mortgage you can minimize your risks of payment shock while taking advantage of the lower rates offered by interest only mortgages.

You can learn more about your mortgage refinancing options, including strategies for minimizing your risk and avoiding lender junk fees by registering for a free video tutorial. These videos were produced by a retired mortgage broker and will show you how to refinance with a wholesale mortgage rate without paying too much. Click here to register for your free mortgage videos.

If you are a homeowner paying on an Adjustable Rate Mortgage, refinancing could help you avoid a financial nightmare. Many homeowners don’t know when their Adjustable Rate Mortgages are scheduled to reset and experience payment shock when their monthly payment goes up by several hundred dollars. Here are several tips to help you manage your Adjustable Rate Mortgage and decide if refinancing is right for you.

Many homeowners use Adjustable Rate Mortgages to purchase their homes because these loans are easier to qualify for and have lower payments, at least in the beginning. These loans frequently come with ultra-low “teaser” interest rates; however, at the end of the introductory period the loan switches to the contract mortgage rate and the payments go up significantly. Homeowners who don’t understand how their contracted mortgage rate works can experience payment shock when their lender starts adjusting the loan.

What is Mortgage Payment Shock?

Imagine waking up one day to a statement from your lender showing that your Adjustable Rate Mortgage has reset and the new monthly payment will be $400 more than you’re currently paying. For many homeowners living paycheck to paycheck this would be a disaster resulting in the eventual loss of the home. Payment shock occurs for a number of reasons; some homeowners don’t understand how their Adjustable Rate Mortgages work or even what their contract interest is.

Benefits of Refinancing Your Adjustable Rate Mortgage

There are a number of benefits from refinancing in addition to locking in your monthly payment amount. If you decide to stick with an Adjustable Rate Mortgage, refinancing could get you a better margin if your credit score has improved. Margin is the amount of markup that’s added your mortgage rate every adjustment cycle; the amount you’ll pay is partially based on your credit score. If you’ve improved your credit rating you could get a lower margin and pay less interest.

Of course the main benefit or refinancing your Adjustable Rate Mortgage with a fixed rate mortgage is having a stable payment amount. When interest rates are on the rise for whatever reason you can expect your mortgage payments to follow. Fixed rate mortgage loans protect you from economic uncertainty and rising mortgage interest rates. If you don’t want to refinance with a fixed rate mortgage you can improve your stability by refinancing with an Adjustable Rate Mortgage with better caps. Caps are safety features that limit how much your payment amount and mortgage rate can rise during any one adjustment and over the lifetime of your mortgage.

Refinancing Can Help You Build Ownership Faster

Refinancing your mortgage with a new loan with a shorter term length allows you to build equity in your home at a much faster rate, meaning that you will pay your mortgage down faster and pay less to your lender in finance payments. The disadvantage of a shorter term length is that your monthly payment will be much higher; however, if your budget can support his payment you can save yourself thousands of dollars in the long run. There are other circumstances where refinancing can raise your payment amount. Borrowing against the equity in your home for instance results in qualifying for a slightly higher mortgage rate and a higher monthly payment. The money you get back can be used for any reason; many homeowners use equity in their homes to consolidate higher interest debts such as credit cards.

Is Mortgage Refinancing Right For You?

There are a number of factors to consider when deciding if mortgage refinancing is right for you depending on your objective for the new loan. Many financial advisors and websites will tell you not to refinance unless your new mortgage rate is at least two percent lower than you’re already paying; however, this so-called “rule of thumb” is bad advance.

Rather than basing your decision to refinance on an arbitrary mortgage percentage rate, it makes more sense to base your decision on how long it takes you to recoup your expenses from refinancing and realize a savings. Here’s why…whenever you take out a mortgage loan you will be required to pay a number of fees and closing costs. If your objective for refinancing is to save money with a lower payment amount you will not realize any savings until you have recouped these expenses.

You can easily calculate how long it will take you to recoup your expenses by dividing the amount of your out of pocket expenses by the amount you will be saving each month on your mortgage payment. This will tell you the number of months you have to realize a savings from the new mortgage. This only works if you are considering refinancing to lower your monthly payment amount. Homeowners refinancing with longer term lengths or borrowing against their homes may never recoup the expenses of refinancing their mortgage loans.

Another factor to consider is the amount of time you plan on keeping your home. If you sell your home before recouping your expenses you will lose money by refinancing. You should not plan on moving prior to the reaching this break-even point for your loan.

Beware Mortgage Broker Fees

Once you’ve decided to go ahead with refinancing your mortgage there are a number of potential pitfalls you’ll need to avoid. These problems include paying unnecessary closing costs, Broker fees and commission based markup of your mortgage interest rate. If you’re not careful a greedy mortgage broker can wipe out any potential savings you stand to realize from refinancing the loan. You can learn more about refinancing your Adjustable Rate Mortgage with a wholesale rate and avoiding unnecessary fees with a free mortgage DVD.