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Mortgage / Loan Information & Glossary

Here is a good overview of mortgage loan terms and programs. All the different loan types now available can be VERY confusing. Be sure you're working with a loan officer who is willing to explain everything to you in terms YOU understand. Sometimes loan officers speak a different language than the rest of us and they forget we aren't fluent in "loaneese". ASK them to slow down and explain mortgage terms to you in English.

Information courtesy of Paula Schneid, reprinted with permission.

40 Year Fixed Rate Program

A 40 year fixed mortgage is a type of mortgage loan that is repaid by the borrower making 480 equal monthly payments over a period of 40 years. Since the borrower's payments are 'fixed', the borrower can expect to make the same monthly payment for the entire term of the loan. A 40 year mortgage loan is the newest program used to finance a residential purchase, and is available for conventional and jumbo.

30 Year Fixed Rate Program

A 30 year fixed mortgage is a type of mortgage loan that is repaid by the borrower making 360 equal monthly payments over a period of 30 years. Since the borrower's payments are 'fixed', the borrower can expect to make the same monthly payment for the entire term of the loan. A 30 year mortgage loan is the most widely accepted program used to finance a residential purchase, and is available for conventional, jumbo, FHA and VA loans.

15 Year Fixed Rate Program

A 15 year fixed mortgage is a type of mortgage loan that is repaid by the borrower making 180 equal monthly payments over a period of 15 years. Since the borrower's payments are 'fixed', the borrower can expect to make the same monthly payment for the entire term of the loan. A 15 year mortgage loan is the most widely accepted program used to finance a residential purchase, and is available for conventional, jumbo, FHA and VA loans.

1, 3, 5, 7, 10 Year Adjustable Rate Loan Programs

An adjustable rate mortgage (ARM) is a mortgage loan that is most widely known for its low starting interest rate (when compared to the 30 & 15 year mortgage loans). This 'low' introductory rate is used to calculate the mortgage payment for a specified period of time. Once this introductory period is over, the interest rate is adjusted periodically based on a preselected index. The most commonly used index is the yield on the one-year Treasury Bill. The new interest rate is determined by adding this index to a set margin (which is determined by the lender).

Although there are a variety of adjustable rate mortgage programs available, the most common program is the One Year Adjustable Mortgage (One Year ARM). The interest rate on the one year ARM is adjusted once each Year, for 30 years. APR's on variable rate loans are subject to increase but may decrease from year-to-year, the borrower should be prepared to handle an increase in his/her monthly payment (should the index rate increase). ARMS can also be "hybrid" loans such as the popular 3/1 ARM, 5/1 ARM, 7/1 ARM and 10/1 ARM because they take on the best of both worlds - fixed and adjustable. For example, a conventional 3/1 ARM has a fixed interest rate for 3 years, then the rate may adjust every year thereafter. However, hybrids can vary in periods of adjustment.

Payment Option ARM Loan Programs

This loan program is an adjustable rate mortgage with a low initial monthly payment that will increase each year for the first five years. It also offers other payment options to help you budget your monthly cash flow.

  • Minimum Monthly Payment
  • Interest Only Payment
  • 30-year Amortized Payment
  • 40-year Amortized Payment
  • 15-year Amortized Payment

 

What are the Benefits of an MTA ARM:

  •  
  • Helps maximize cash flow or defer interest to offset capital gains in a securities portfolio for savvy investing
  • Works well for investment properties where rentals may produce an uneven monthly revenue stream
Excellent choice for borrowers who are self-employed or work on commission with inconsistent income because borrowers have payment options every month

 

 
Why is 12 MTA ARM so flexible, yet stable?
Based on the Monthly Treasury Average (MTA), the 12 MTA is not affected by the volatility of daily interest movements. Each month the MTA index adjusts to reflect the previous 12-month average, thus avoiding the sharper fluctuations of other volatile indices.

Its low introductory start-rate allows you to make very low initial mortgage payments and low qualifying rates enable you to qualify for more home.

Calculating the monthly payment: The payment during the first five years starts by calculating the payment using the initial low introductory rate, usually 1 percent to 2 percent. That will be your payment rate. Each year the payment will increase 7.5 percent for the first five years.

Minimum Payment Changes:
Year 1 $1000.00 = Base of Minimum Payment
Year 2 $1075.00 = Year 1 $1000.00 + 7.50%
Year 3 $1155.63 = Year 2 $1075.00 + 7.50%
Year 4 $1242.30 = Year 3 $1155.63 + 7.50%
Year 5 $1335.47 = Year 4 $1242.30 + 7.50%

In year six, the payment will then be calculated using the index rate plus the margin rate, and amortized over the remaining term of the loan. On a thirty-year loan, the remaining term is twenty-five years, and on a forty year loan the remaining term is thirty-five years.

The note rate is the interest rate the bank will charge you each month. Some programs will use the introductory rate as the note rate for the first three months. After that introductory period, the note rate will then adjust to the index rate plus the margin rate.

EXAMPLE: COFI index 3.626
  Margin 2.250
  Index + Margin 5.876
Payment Calculation:
Year 1 use Introductory Rate 1.000%
  Term 30 years
  Initial Loan Amount

 
Year 6 Index + Margin 5.876
  Term 25 years
  Loan Amount plus Deferred Interest

Deferred Interest: The minimum payment option can help keep your monthly payments affordable. If the minimum monthly payment is not sufficient to pay the monthly interest due, you will then have deferred interest. That is, the interest that was not paid will be added to the principal loan balance. Your loan balance increases each month. This is where the term negative amortized loan comes from. The balance increases, instead of decreases like in a normal loan. You can always avoid deferred interest by choosing the interest-only payment option.

Payment Options: With the option ARM, you generally have at least two fully amortized payment choices, leading to a quicker loan payoff. If you prefer to pay off your loan on schedule, you can make the fully amortized payment based on a thirty- or forty-year loan, or you can choose the fifteen-year payment option for the fastest equity buildup.

Option ARM loan programs are right for you if you'd like to own your property only for a short time, and prefer affordability and flexibility in your monthly payment. However, if you select the minimum payment option in the early years, you should be prepared for possible sudden increases in your monthly payments thereafter.

Four types of payment options:

Minimum Payment
With the minimum payment option, your monthly payment is set for twelve months at your initial interest rate. After that, the payment changes annually.

Interest-Only Payment
With the interest-only payment option, you can avoid deferred interest, when the minimum payment is not enough to pay the monthly interest due. This payment option does not result in your principal reduction. The interest-only payment will change every month based on changes in the ARM index used to determine your fully indexed rate.

Fully Amortized Fifteen-, Thirty- or Forty-year Payment
Fully amortized means you have equal monthly payments for the entire term of the loan, and have a zero balance at the end. With fully amortized payments, you pay both principal and interest. Your payment is calculated each month based on the prior month's fully indexed rate, loan balance and remaining loan term.

Index plus Margin
The index is the base rate used to determine your interest rate. Most people are familiar with the Prime rate, T-bill or Cofi. Option ARM programs are is usually based on one of the following indexes:

  • Monthly Treasury Average (MTA)
  • London InterBank Offered Rate (LIBOR)
  • 11th District Cost Of Funds Index (COFI)
  • Cost of Savings Index (COSI)

The Margin is the number of percentage points (for example, 2.75) the lender adds to the index rate to calculate the ARM interest rate, or note rate, at each adjustment. The margin is fixed at the time the loan is funded.

The interest rate you will be charged is the index rate plus the margin.

The Payment Option ARM goes by several different names: Option ARM, PayOption, Pick-a-Payment, Neg Am Variable, Negative Amortized Loan.

 

Jumbo Loan Programs

A jumbo mortgage is a mortgage loan which is larger than the limits set by Fannie Mae and Freddie Mac (see below). Since these two agencies will not purchase these types of loans, they usually carry a higher interest rate (to enhance their value and marketability to investors). For Fannie Mae's historical loan limits, click here. 

 

 

2006 Conforming Loan Limits

Guidelines

No. of Units

Contiguous States, District of Columbia and Puerto Rico

Alaska, Hawaii, Guam and U.S. Virgin Islands

Maximum Loan Limit Percentage

1

$417,000

$625,500

95%  /  5% down

2

$533,850

$800,775

90% / 10% down

3

$645,300

$967,950

80% / 20% down

4

$801,950

$1,202,925

80% / 20% down

 

Source: FNMA, FHLMC

Interest Only Programs

This program is designed to provide maximum borrowing capacity with a minimum monthly payment. If you're a first time homebuyer, a borrower with a limited budget, or someone with specific needs, you'll find these loans especially helpful. They provide the "interest only" feature for a limited period of time (usually ten years). After that, in order to pay off the loan by the end of the required term (usually 30 years), your payment adjusts to include principal and interest for the remaining years of the loan. This ensures that you will pay off your loan in by the end of the required loan term.

 

Ideally, this program should not be used for a long-term commitment. It should be considered as a short-term solution that enables you, the borrower, to maximize your individual buying or borrowing capacity with the lowest monthly payment available. Since a person is qualified based on the interest-only payment and will likely refinance before the interest-only term expires anyway, it could be a way to effectively lease a dream home now and invest the principal portion of the payment elsewhere while realizing the tax advantages and appreciation that accompany homeownership.
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