11 December 2013
With one daughter in college and another in high school, Guy Hempel and Cherina Rossi face years of tuition payments.
So the Fountain Valley, Calif., couple are betting on their house to help pay for their daughters’ education.
Last month they refinanced into a new adjustable-rate mortgage, or ARM, which means they’ll pay $700 a month less than they would have under a traditional 30-year, fixed-rate mortgage.
Their house payments will remain fixed for five years, and by the time those payments could adjust upward, the couple will be ready to move. “By that time, we’ll be empty-nesters and won’t need a big family home,” Rossi said.
The change, said her husband, also means “we’re saving perhaps 30 percent a month that we can put to their education.”
Rossi and Hempel are part of a small but growing number of homeowners moving away from the traditional, fixed mortgages that dominated the market in the wake of the housing crash — a crash that was fueled, in part, by people borrowing with risky, adjustable home loans.
ARMs all but disappeared following the financial meltdown. But they’re making a comeback.
Nationwide, adjustable mortgages made up 7.4 percent of all U.S. mortgage applications as of mid-November, up from 0.9 percent in January 2009 and 3.8 percent a year ago, Mortgage Bankers Association figures show.
Loan brokers say last summer’s jump in rates for the 30-year fixed mortgage sparked much of the renewed interest in ARMs. The rates for a 30-year fixed shot up from 3.35 percent in May to 4.58 percent in August.
Borrowers realized, however, they still could get low monthly payments with ARMs, since initial rates on those loans are 1 percentage point or more lower.
“People got spoiled with (30-year fixed) rates at 3 1/2 percent,” said Alan Renteria, a co-founder of Citizens Direct Home Loans in Yorba Linda, Calif. “That’s why people are going with the adjustable rate mortgage.”
ARMs also help some home shoppers get a toehold in the market, allowing them to buy a house they couldn’t afford with a 30-year fixed, mortgage brokers said.
“Better to get the house now before prices go up,” said John Hoppe, a mortgage broker in Anaheim, Calif.
The use of adjustable mortgages still is well below average and remains significantly below the peak of 80 percent of loans at the height of the housing boom in 2004-05.
Some brokers think ARMs still may be too risky for some borrowers. If rates go up, many homeowners may be unable to afford those higher payments.
ARMs, for example, aren’t for people planning to stay put a long time. For them, it’s still better to lock in a fixed rate while interest still is near historic lows. The average rate on a 30-year fixed was 4.29 percent last week, according to government-sponsored mortgage giant Freddie Mac.
“It’s still a phenomenal rate,” said Paul Miller, a senior loan officer at a mortgage banking firm in Aliso Viejo, Calif. “I’m not putting a lot of my borrowers into ARMs right now because 30-year money is cheap. … Rates have nowhere to go but up.”
The California Association of REALTORS®, for example, forecast that interest on 30-year, fixed-rate mortgages will rise to 5.3 percent in 2014, up 1 percentage point.
Brokers say that adjustable mortgage users tend to be savvier and more willing to tolerate risk. In general, ARMs also are more common on “jumbo” loans, or loans for more than $625,500, where the rate difference is even greater. Unlike smaller loans, jumbos can’t be sold to the government-backed Fannie Mae and Freddie Mac.
“It’s totally up to the attitude of the client,” said Paul Scheper, a division manager for Greenlight Loans in Irvine, Calif.
Today’s ARMs are a far cry from the exotic, high-risk loans of the housing bubble, brokers say. In many cases, homeowners received loans with artificially low “teaser” rates that eventually adjusted to payments they couldn’t remotely afford.
Owners expected rising home prices to bail them out of those loans before payments adjusted upward. But when home prices stopped climbing, the market collapsed, pushing millions of homes into foreclosure.
Today’s ARMs don’t include “teaser rates” and have more stringent requirements — such as minimum down payments and high credit scores. Even-tougher lending standards take effect in January.
In addition, the most common ARM today is a hybrid that combines features of both fixed and variable-rate loans, Scheper said. Loan rates remain fixed for a set period — five, seven or 10 years — then adjust once a year after that. Such loans also have a cap on yearly increases, plus an overall lifetime cap.
But when rates go up, so do payments.
Adjustable mortgages may make sense for borrowers planning to sell a home within five to 10 years, for those who can afford higher payments or for young professionals expecting to see their income grow, brokers said.