- The Washington Times - Friday, July 3, 2009

Fixed rates jumped during the last couple of weeks, sparking new interest in adjustable-rate mortgages (ARMs). I think the media has unfairly categorized all ARM products as dangerous loans that caused the collapse of the economy.

It’s certainly true that certain ARM loans carried some risk, and that unsuspecting or irresponsible borrowers took these loans out in order to purchase a home that wasn’t intrinsically affordable.

However, for some to say that all adjustable-mortgage products are a bad thing for the consumer is ridiculous. Let’s take a look at a recent situation.

A client recently called me to ask about refinancing his $297,000 loan with a fixed rate of 5.875 percent. He has great credit, good income and his property is worth over $600,000. The best I could offer was 5.75 percent with no points. A refinance simply didn’t make sense. Had he called me a month earlier, I would have been able to lock in his rate for 30 years at 5 percent.

This fellow is a former neighbor of mine, and he tells me that he and his wife will be retiring to Florida within five years. Here’s where an ARM comes in handy.

I suggest to my neighbor that he refinance to a 5/1 ARM at 4.375 percent. This means the interest rate is fixed for the first five years before it can adjust. The rate will adjust annually thereafter. Since these folks will be selling their home and retiring within this time frame, the rate remains fixed for their purposes.

I do a little number crunching and conclude that a refinance would be a home run. If my neighbors decide not to refinance, they would continue to pay $1,892 in principal and interest (P&I;) for the next five years. Their $297,000 balance would drop to about $267,000.

By refinancing to 4.375 percent, the P&I; drops to $1,482 per month. Closing costs would total about $2,500, and the mortgage balance at the end of five years would drop to about $270,000. The borrowers pay $2,500 in upfront fees and their balance is $3,000 higher at the end of the five-year period.

However, their monthly savings is $410 for the first five years, which totals $24,600. If we subtract the closing costs and the $3,000 in additional mortgage balance from the total payment savings, we are ahead by $19,100.

What if my neighbors decide to remain in the property for more than five years? Well, a “perfect storm” of events must occur to make this a losing situation, because they would already be $19,000 ahead of the game.

Adjustable-rate mortgages can be a great product for the right borrower. The recent widening of the spread in rates between ARMs and fixed rates have made ARMs more popular.

For those who plan on being in the property for seven years or less and think you missed the refinance boat, a 5/1 or 7/1 ARM might make plenty of sense.

Henry Savage is president of PMC Mortgage in Alexandria. Reach him by e-mail at [email protected]

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