How does an adjustable rate work? - Understanding how an adjustable rate mortgage (ARM) works can help you when shopping for a mortgage. The basic components of an ARM are the INDEX, MARGIN and RATE. In addition to those things, you also need to uderstand the yearly and life of the loan CAPS. By knowing how your ARM adjusts, when it adjusts and how much it adjusts can help you better shop for the loan that best fits your needs.Adjustable Rate Mortgages generally have 3 different caps on how much the interest rate can adjust. These caps are often given in a format such as 6/2/6.
The first number is the limit on how much the rate can adjust at the first scheduled adjustment. On a 3 year ARM, this would be at the end of 3 years.
The second number is the cap on how much the rate can adjust on any adjustment period after the initial adjustment period. ARMs usually adjust annually, every 6 months or every month.
The third number is the life of the loan limit. That is the maximum your mortgage can adjust upwards over the life of the loan.
So, 6/2/6 caps on a 3 year ARM with annual adjustment means your rate cannot adjust more than 6% at the end of 3 years, not more than 2% any year after that, and never more than 6% above the initial rate.
The portion of your ARM that adjusts is the index. There are several indexes that adjustable rate mortgages are tied to.
Typically, an ARM will have a fixed period for 2 or 3 years, then will adjust after that.
Conforming Loan - A conventional mortgage that conforms to the loan amounts and mortgage guidelines used by the Federal National Mortgage Association (FNMA or "Fannie Mae"), and/or the guidelines of The Federal Home Loan Mortgage Corporation (FHLMC or "Freddie Mac").
The conforming loan limit for 2006 on a 2-Unit property is $801,950.
The conforming loan limit for 2006 on a 3-Unit property is $645,300.
The conforming loan limit for 2006 on a 2-Unit property is $533,850.
The interest rates offered for the conforming loans are always lower than the rates offered for non-conforming loans. A jumbo loan is an example of a non-conforming loan.
A conforming mortgage is one that is packaged for resale on the secondary mortgage market to Fannie Mae or Freddie Mac, two quasi-governmental agencies that buy mortgages from cooperating lenders. Both agencies set limits annually on the size loans they'll buy. In 1999, the conforming loan limit was increased to $240,000 from $227,150 in 1998.
The current conforming loan limit for 2006 on a one unit property is $417,000.
Annual Percentage Rate – (APR) - Annual Percentage Rate (APR) is an expression of the effective interest rate that will be paid on a loan, taking into account one-time fees and standardizing the way the rate is expressed. The aim of using APR is to calculate a total cost of borrowing. APR is intended to make it easier to compare lenders and loan options.
The APR is likely to differ from the "note rate" or "headline rate" advertised by the lender.
While there are several acceptable ways to calculate the exact APR, the general process is:
1. Total the included one-time costs and add them to the face amount on the loan
2. Calculate a monthly payment for that amount at the loans "note rate"
3. Calculate what interest rate would have to be applied to just the face amount of the loan in order to equal the calculated monthly payment in step 2.
In a simplified example, if you borrow $100 for one year at 5% interest (so that you will owe $105 at the end of the year) and you pay the lender a $5 origination fee, your total cost to borrow the money will be $10 ($5 in a year for interest plus $5 now for the origination fee). Your APR will come out at just over 10%.
APR (Annual Percentage Rate)
You are no doubt already aware that APR stands for 'Annual Percentage Rate', what might not be so clear to you is what exactly this is.
In simple terms, the APR is a measure of how much a given loan or mortgage will cost you in interest per calendar year. The figure for the APR takes into account all of the normal costs associated with the loan, such as arrangement fees, any annual charges (which may be the case with credit cards) along with other such costs so as to provide a clear, overall figure for the total cost of the loan.
The rate does not include any non-standard costs, so any late-payment fees are not taken into account, and so you should check these yourself to see if they are higher than you would be willing to accept. Similarly, early repayment fees won't be included, and these are certainly worth checking, as they could tie you into a loan even if you have the money to repay it early.
When APR figures are quoted on promotional material, they will be accompanied by the term 'typical APR', this is because stating the APR is a legal requirement, and the rate stated must be that which is offered to at least two-thirds of the loan applicants that get approved for that loan, hence making it the typical rate offered.
The ways in which the various loan companies determine who gets what rate differ, however they will generally look at the potential borrower's credit history, their current financial situation and their employment status to get an idea of whether they will be able to cope with the repayments on the amount being requested for loan. Based on how much of a risk the borrower presents, the lender determines firstly if they qualify at all, and if so what sort of interest rate would be needed to cover their exposure to the risk of non-payment. The less of a risk the borrower is, the lower the APR will be, generally speaking.
While the APR the lender charges is up to them, it is largely based at least on the Bank of England base rate, and you will never see a loan being offered at a rate lower than this. Depending on the type of loan and the borrower, the APR of a loan will normally range from a couple of percent above the base rate, to as much as four times that in cases where the borrower has what is known as an adverse credit rating.
Calculating the APR figure is a complex task, but thankfully it is one that the lenders are required by law to do, the figure gives you as the customer a clear and simple way to compare the cost of loans like for like - all other things being equal, the loan with the lower APR is the cheaper option.
One misconception by borrowers is that the APR will affect their monthly payment.
This is false.
In reality the monthly payment is calculated based on the loan amount, the interest rate and the loan term.
The APR is a calculation of the loan amount, interest rate, and closing costs expressed in terms of a percentage rate.
