Deciding Which Loan Program is Best For You
By Mark Barnes,
il-odm.org Staff Writer
In a very inconsistent mortgage market, home buyers and mortgage refinancers must understand different home loan programs and how each one affects them, in terms of monthly, yearly and overall payments. With literally hundreds of mortgage programs available today, it’s imperative that you consider your scenario and that you use a couple of mortgage calculators to clearly understand the impact of different loan programs. Let’s look at a couple of different mortgage scenarios and programs and use the “Which Loan Is Better” mortgage calculator here at il-odm.org for comparison.
Now, even though this calculator allows for various points and origination fees, we’ll leave these as constants for these two models. Both loans will also be for $250,000. So, let’s begin by comparing a 30-year fixed rate mortgage to a 5-year adjustable rate mortgage. Now, the reason a borrower might consider these two programs is uncertainty of the time he or she would live in the home. If there’s a possibility of moving or refinancing in five years or less, the ARM is a good option. If the borrower believes he or she might move within 10 years, the FRM is a good consideration.
So, we go to the “Which Loan Is Better” calculator and enter $250,000 in both loan amounts, and 1% in the origination field. Make the points 0.00 for both. The key to the comparison is the interest rates. For our model, we’ll assume a FRM rate of 6.5 and an ARM rate of 4.5. Now, when we click the “calculate” button, we find that the difference in the monthly payment is roughly $314. Now, the total savings shows a difference of nearly $112,000. Although this seems like a no-brainer, we have to remember that the ARM will not remain at 4.5 percent interest for 30 years, whereas the FRM will stay fixed at 6.5 for the life of the loan.
So, in order to decide on the value of the program, you have to take the monthly savings and multiply by 60 (the amount of months that the payment is fixed, before the adjustment period arrives). This is a savings of close to $19,000. Based on these numbers, it would certainly seem like a good move to take the ARM, even if the borrower will stay over five years. You can always refinance later.
In a second scenario, let’s consider the same fixed rate mortgage at 30 years, compared to a 20-year loan with a slightly improved rate of 6.375. We see that the total savings with the 20-year program is a gigantic $125,921, but the “penalty” is a monthly payment that is $265 higher than the 30-year mortgage.
Again, it’s important to consider your time in the home. If this is your dream home, you’ll likely be staying. If you can afford the $265 more each month, the 20-year term seems like the right move. Just remember to always consider all of your options.