- - Thursday, January 5, 2012

I have a client who refinanced his jumbo loan with me about 1½ years ago. Watching the rates fall, he emailed me to ask if another refinance might be in order.

The best I could offer was 4.375 percent with no fees on a new 30-year, fixed-rate loan. This was a drop of just .25 percent from his existing rate of 4.625 percent. Because there are no closing costs, one could make an argument that he should undertake the paperwork for a new loan that would save him .25 percent. But the paperwork to do a refinance is cumbersome, so I didn’t blame him for hesitating.

Because my job is to lay out all the options, I suggested that he look at a 7/1 adjustable-rate mortgage (ARM), which carries a fixed rate for the first seven years and can adjust annually thereafter. It was only then that he told me he and his wife have fairly firm plans to retire in eight years or less, sell their existing home and relocate.

His objectives clearly are a bit different from what I had thought, and an ARM became much more compelling.

I quoted him an interest rate of 3.875 percent with no fees. After running the numbers, we found that the guaranteed savings over the first seven years would be substantial.

First, his principal-and-interest payment would drop by \$353 per month during the loan’s the first seven years, saving \$29,652. Additionally, because the interest rate would be lower, he would pay off the debt faster. My calculator shows that without refinancing, his balance will drop in seven years to about \$523,000. If he refinanced to 3.875 percent, however, his monthly payment would drop by \$353, and his balance at the end of seven years would be about \$519,000.

Adding the \$29,652 in payment savings to the \$4,000 in extra equity would give him a total guaranteed savings of \$33,652 before his interest rate could go up in year eight.

In a worst-case scenario, his rate would rise to 5.875 in the loan’s eighth year. This is 2 percent above the 3.875 percent ARM rate and just 1.25 percent above his existing 4.625 percent loan. Under the worst-case scenario, he would spend less than \$6,000 in extra interest payments in year eight. So, at the end of year eight, he still would be \$27,652 ahead of the game.

Based upon the objectives of these folks, an ARM clearly is a viable choice. They would have to weather a very unlikely perfect storm of events to lose money with the ARM.

Send email to henrysavage@pmcmortgage.com.