Our adjustable mortgage rate reset! Oh No!
Actually, I’m pretty excited that our adjustable mortgage rate reset. A couple months ago, I wrote all about the details of our two mortgages. To recap, our primary mortgage, which is about $300,000, is a 5/1 interest-only ARM mortgage. The “5” means it resets after 5 years. That happens to be NOW!
As an aside, although we paid almost $400,000 for our house, we do live in the Washington D.C. area, which is very expensive, and our house is an old cape cod style from 1941. I just want to make sure you have everything in perspective, especially if you live in a more rural area where houses are MUCH cheaper.
So last week, we got the letter from the mortgage company stating our new rate. Previously, our rate was 5.25% for the first 5 years, but the new rate is Prime + 2.25% (rounded to the nearest 0.0125%). I’ve been following the prime rate, which is based on the 6-month LIBOR rate, for the last year and it just kept going down.
A year ago, it was around 3%, which would have put our new rate right at 5.25%; the same as our old rate. But as of the first day of the month, which is when they picked the rate, the 6-month LIBOR was at 0.56%.
0.56% + 2.25% = 2.875% (rounded up)
That rate is good for the next 6 months. After that, the next rate change is capped at 2%, so it will only go up to at most 4.875%, which is still a savings.
How much do we save each month?
Our current interest payment (since it’s an interest-only loan) is about $1400. Yeah, that’s a lot of interest each month. Our new interest payment will be about $800.
We’ll be saving about $600 per month in interest for the next 6 months! That’s a buttload of moolah! That’s $3,600 over those 6 months.
What will we do with the extra money?
That $3,600 could buy me a beautiful TV as a graduation present next month, but we have other plans. More responsible plans.
Instead, we’ll just keep sending that $600 to the mortgage company each month. But this time it will go towards principal, not interest. And since our 2nd mortgage is about 8%, we’ll apply it to that loan, not the 1st mortgage. In 6 months, our mortgage will be an additional $3,600 lower, along with other overpayments we’re planning.
What about refinancing?
We have to refinance eventually. Rates won’t stay this low, but we’re kind of stuck. House values have dropped and, at best, we could only break even on a home appraisal. I applied for a refinance about 6 months ago to test the waters, so I know we need at least 10% equity in our home to get a decent rate, but right now we only have about 5% equity.
Honestly, we don’t have a plan yet for refinancing. And while we’re locked in under 5% for at least the next year, I’m not in a big hurry. However, I’ll be monitoring the rates, but unless home values bump up a bit too, we’re a bit out of luck.
Just make sure you check your mtg note. Some say that your rate can never go below the initial rate no matter what the libor is. There will be a section that says your rate can never go above a certain rate or below. Good luck!
@Cyndi, good for my readers to know, but I’m already on top of the terms of my contract, and this letter from the mortgage company is the official new rate.
That is an awesome rate. Could you imagine if that was a fixed rate?? I think you have a solid plan; especially since you plan to apply the $600 savings each month to the second mortgage.
This is what I’m talking about! Good stuff!
Some people are so stupid when they say “ARM’s are going to reset and there’s going to be a lot of pain.” These folks have NO IDEA where rates are now. Reset away, b/c cheap money continues!
@Samurai, one of the lucky things with our loan, although it’s still not a smart loan, is that it’s interest-only for the first 10 years, not just the first 5. When you hear the rate reset causing people to default on their loan, it’s most likely because not only did the rate change, but also that principle is now added to their payment, not just interest.
We have another 5 years before that happens to us, if we don’t refinance before then, but if it were to happen now, our interest owed would have still dropped $600 a month, but principle would have jacked it back up the same $600. We would have stayed even, which is why we’re still paying that $600 towards principle on the loan now.
Good point CD. But adding principal to the payment is simply your money going from one asset class (cash) to another asset class (equity in your home), so folks shouldn’t feel bad to pay a higher mortgage if they are going from i-only to PMI.
There’s only one figure I track every day, and that’s the 10-year treasury yield, which is currently under 3.5%.
Inflation? What inflation. Cheap money for life! 🙂
are you sure of your rate? Seems to me, you probably need to verify it, because you said your adjustment is “Prime”+2.25%. Prime is currently 3.25%. That means your new rate is 5.5% with the possibility of increasing to a max of 7.5% in 6 months during your next adjustment. did the mortgage company simply list Prime+2.25% or did they actually put in the final interest rate?
@Tim, read the article please. My prime is based on the 6-month LIBOR rate which was .56 as of the first business day in November. Not all contracts are based on the same prime rate.
@Samurai, you are mistaken. Cheap money is not available to the consumer, because the banks are hoarding the cash that they can get because they can borrow for nearly nothing. this hasn’t really been passed on to the consumer. ARMs adjusting are scary because there are lots of people who got into ARMs for the teaser rate without thinking about the terms of when their ARMs adjust or expecting to have more money and be able to finance when their ARMs were going to adjust. With people out of work, and credit harder to come by, this is what is “scary” about ARMs adjusting. Not everyone is going to qualify for the best rates, especially considering even prime mortgages are defaulting at a higher rate now. Current mortgage rates for best qualified borrowers is around 5.25% for mortgages, which is pretty cheap, but not as cheap is it could be if the banks passed on their savings of borrowing at nearly nothing to the consumer.
anyway, back on point, most people signed up for ARMs or interest only ARMs for nearly nothing the teaser years. Many adjustment terms are not pretty. couple that with people being out of work, etc, and again it is a scary thing. on a case-by-case basis maybe things are not scary, but the cumulative effect of lots of ARMs adjusting for people who cannot afford higher increases payments has caused and will continue to cause mortgage defaults and foreclosures. that is the scary bit.
I think cleverdude may be mistaken on his low interest rate and using Libor instead of the actual Prime rate.
@Clever I understood what you wrote, but when you write Prime, Prime is not the actual Libor rate which you assumed in your calculations. You are forgetting to add a factor onto the Libor rate in order to get the Prime Libor rate.
For example, regular Prime rate is based on fed fund target rate. In order to get the Prime rate, it is fed fund target rate + 3, which is currently .25+3=3.25.
It seems to me if you are getting a Prime rate based off the Libor, you are actually going to pay more than the regular prime rate since 6-month Labor is .51, which would mean your Prime rate is 3.51
add 3.51 to the 2.25 you get 5.76% for your adjusted interest rate
if you have the 2.875% in black and white, I believe you, but if your documents said Prime+2.25%, I think you need to verify, because I think you counted your chickens before they hatched.
if i am mistaken, i think the confusion is your use of the term Prime and Prime being “based on” Libor.
I am well aware there are also Libor ARMs.
@Tim, I think you’re over-analyzing the whole situation. The letter specifically said my rate was going down from 5.25% to 2.875%, so yes, I have it in black and white.
I’ve read my contract many, many times and I’m positive I know what I’m talking about here. It’s the 6-month Libor rate (.56) plus a 2.25% margin. If I’m using one word wrong, I apologize, but that’s what I have. I’m sorry if you don’t believe it, perhaps because of my wording or that the rate is so low, but that’s what it is and that’s what I’m paying.
First off, congrats — sounds like you’re in a good place for the next year!
A refi in this market is a little tricky, but it can be done. Long story short (and I intend to post the details of the long story one of these days), I have a 30 year fixed mortgage and a HELOC. My HELOC was frozen by my bank in January of this year, but I obtained an appraisal that showed a nice amount of appreciation and got them to unfreeze my HELOC. I immediately took out the principal I’d paid down, as I had been using that as my emergency fund.
Then, when rates were super low towards the end of spring (lucky timing –I could not have predicted this), I applied for a refi. Even though I’d just gotten an appraisal, I needed to obtain a new, independent appraisal, and it came in lower than the appraisal I’d obtained on my own. However, it still showed appreciation from what I’d initially paid, and in the end, the LTV ratio worked out such that I was able to refinance my 30 year fixed mortgage to an even lower rate.
My point is that you might be surprised at what your home would appraise at. Of course, the other trick is getting your second mortgage lender to subordinate, but I was lucky and had a good mortgage guy who helped me work through the process.
Good luck with everything, and keep us posted!
@Clever, I didn’t say i didn’t believe it. “Prime” is what had me confused and i stated so much.
@Clever, I didn’t say I didn’t believe it, because I know there are Libor ARMs; however, I was fixing on the term “Prime” which connotes something different. Plus your definition of the “Prime” rate in the OP made it seem more like you were talking Prime vice Libor Index rate. So my question was how you were explaining Prime and the use of Prime. I should have assumed you weren’t talking actual Prime since you did mention you had an interest only ARM, which would confirm the lower rate you were getting. anyways, a moot point since you know the rate you are getting.
what to do with the extra money: save to get the 10% so you can get a fixed rate as soon as possible. BTW, b/c libor index is higher than others, you are paying about .25% more.
Tim, whatcha mean cheap money is not available? Clever Dude just said he refinanced for a great rate! I called up my mortgage guy and he said I can get similar rates too.
Just call your bank. I’m sure you’ll be able to get some good rates too.
@Financial Samurai, actually I didn’t refinance. It was a rate reset.
Nice deal. I have almost 3 years left on mine ARM but I’m watching rates and seeing where things go. When our mortgage gets to a traditional size, below $417k, then it’ll be easier to decide as well.
FYI I just closed yesterday on my refinance. My first happened to be with Wells Fargo who is one of the few that is actually using the Making Home Affordable plans. If you have a Freddie Mac or Fannie Mae loan you could qualify. I don’t blame you for loving that super low rate but that would scare the crap out of me not being able to lock in a fixed rate. Worth some phone calls, I recounted my process in yesterday’s post. It’s not quick but man rates are so low right now it would be a shame not to lock it in.
CleverD, luckily I am in the same situation as you. I adjust from 4.65% down to 2.8%. But word of warning, don’t go spending all the money just yet. You may be losing a similar amount as a tax write off (less interest paid, less interest to write off). Great for cash flow, but you may be paying it back at the end of the year.
CD and those in your shoes.
I’m happy that things are going well for your family. I have some words of caution.
1. Don’t just pay interest only. Try to pay off your loan.
2. Try to get a (low) fixed loan.
3. Don’t look at your loan 5 years from now, but look at it 10 years from now. Here are some clues.
a. There will be more US Dollars in the market buying the same amount of Products 10 years from now.
b. The national Dept is mounting.
c. With a large debt, a smart amount increase of interest rate can ruin your day.
I wish you best of luck and pay off your loan quickly.