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Several adjustable rate mortgages are available to homeowners with varying introductory periods. An ARM that reacts quickly to the market will allow the borrower to benefit from falling interest rates, while an ARM that lags the market will allow the borrower to take advantage of lower rates when rates begin to increase.
There are several aspects of ARMs that impact interest rates including the index, margin, interim caps and payment caps. Learn more about the index, margin, interim caps and payment caps before you apply by reviewing the ARM terms below.
Index
The index of an ARM is the financial instrument that the loan is "tied" to, or adjusted to. The most common indices, or, indexes are the 1-Year Treasury Security, London Interbank Offered Rate (LIBOR), Wall Street Journal Prime Rate, 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 once the loan begins to adjust. The margin added to the index is known as the fully indexed rate. As an example, if the current index value is 5.50 percent and your loan has a margin of 2.5 percent, your fully indexed rate is 8.00 percent. Margins on loans vary depending on the index and the amount financed in relation to the property value.
Interim Caps
All adjustable rate loans carry periodic rate caps. 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
Although much less common, 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 percent 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.
Contact Royal Banks of Missouri to discuss your best home loan options by calling (314) 878-7272. |
