The longer an investor guarantees your interest rate, the higher the risk is to the investor. Therefore, the 30-year fixed rate program has a higher rate than the 15-year fixed rate. And the 15-year fixed rate is higher than the 10-year fixed rate.
The adjustable rate programs that guarantee your rate for less than 10 years offer the lowest interest rates. Today, I received in the mail a very attractive rate offer of 2.55%/2.88% APR. Let’s take a closer look.
You get 2.55% guaranteed for the first five years. After that, the rate will adjust based on Prime Rate + 0%. This means you pay about 1% less than the 30-year fixed rate, which is currently at 3.5%.
If your rate now is 4.5%, then refinancing to 3.5% probably is not going to make sense, after you account for the closing costs. But if you lower your rate by 2%, then it might. Here is a scenario for which it could make good sense:
* Your loan balance is fairly low.
* You continue paying your current payment with the extra going toward principal balance. Ideally, you would be a person who is already paying more and you would continue doing that. This way, your balance would drop significantly each month; especially with only 2.55% going toward interest.
* Your goal is to own your home free-and-clear as soon as possible.
After five years, you would have a very low or no balance. If a small balance was remaining, say $50,000 or less, then even if the interest rate was higher, it would not be problematic. With an adjustable rate, your new payment will be calculated based on the Prime rate and your current lower balance. So even if the rate goes up at the five-year mark, your payment probably would not exceed what you’re paying now anyway.
Don’t Take This Loan If…
* You are not 100 percent confident you can continue paying the higher payment — and will continue to do so. If you’re the type who might give into temptation to make the minimum payment due, this is not for you.
* Your balance is high, such that after five years, you will still have a significant balance owing.
* If you are the type of person who will lie awake at night fretting over what rates might do in the future.
Fine Print on This 5/1 ARM Offer
With the offer I’m looking at, closing costs are only $495. No prepayment penalty. Relock your rate any time you like.
If you’d like to consider this loan for yourself, please feel free to shoot me an email via my “Ask Carolyn a Question” page. You’re also welcome to post a comment or question.