5-year ARM Loans More Attractive, but Still Risky

House on a PlateThe 5/1 ARM loan offers more potential savings today. The interest-rate spread between fixed and adjustable mortgages has widened over the last six months.

As a result, the 5-year ARM loan (recently considered the pariah of the mortgage industry) is making a comeback after a significant decline. But these loans still carry unique and significant risks, when compared to a traditional fixed-rate mortgage loan.

Let’s take a closer look at the pros and cons of 5-year ARM loans in 2011:

More Attractive Rates on 5-Year ARM Loans

The rate spread between the 5-year ARM loan and the 30-year fixed mortgage is wider today than it has been for some time. This makes the adjustable-rate mortgage more attractive to home buyers who want to minimize their monthly payments (at least for the first five years).

Here’s a comparison between today’s spread and what we saw four months ago, according to Freddie Mac’s weekly mortgage survey.

  • February 17, 2011: Average rate for a 30-year fixed mortgage was 5.00%. Average rate for a 5/1 ARM loan was 3.87%. The rate spread was 1.13%.
  • October 7, 2010: Average rate for a 30-year fixed mortgage was 4.27%. Average rate for a 5/1 ARM loan was 3.47%. The rate spread was 0.8%.

With the rate spreads we are seeing today, home buyers who choose the 5-year ARM over the 30-year fixed mortgage could lower their monthly payments by a couple hundred dollars or more. Even more significant, they could save thousands of dollars in interest costs over the first five years of the loan.

It’s what happens after the first five years that borrowers need to consider. The home buyer with the 30-year fixed mortgage loan will have the same interest rate and monthly payment after the five-year mark. The borrower with the 5-year ARM loan will see his interest rate and payments change, most likely by rising.

Buyer Beware: Adjustable Still Means Risky

In the long term, the 5/1 ARM loan carries more risk than a fixed-rate mortgage. This much is undeniable. So home buyers who are considering a 5-year adjustable mortgage should think about their long-term plans. There are basically two types of ARM loan borrowers.

  • Sell: The first group has a pretty good idea that they’ll only be in the home for a few years, perhaps in correlation with a temporary job transfer. They use the ARM loan to get a lower interest rate, thereby lowering their monthly payments as well. They know they’ll be selling the house and moving before the mortgage begins to adjust.
  • Refinance: The second group are the refinance gamblers. These are people who plan to stay in the home for many years, beyond the five-year period of fixed interest. Just like the first group, they use the 5-year ARM loan to reduce their interest rate and monthly payments. But instead of moving before the initial 5-year period expires, they plan to refinance into a fixed-rate mortgage.

Few people use the 5/1 ARM loan with the intention of hanging onto it for the roller coaster ride. Most borrowers fall into one of the two categories above. Note: These are not investors we’re talking about here, but rather home buyers who actually plan to live in the house.

There are risks associated with both of these scenarios. But the risks are higher with the second group. Here’s why. The chances that you can sell a house five years after buying it are better than the chances of refinancing the loan.

There are many more variables involved with the refi process. What if your credit score drops during the first five years? What if you lose equity due to home-price declines? What if you lose income due to job loss or a pay decrease? What if you can’t afford the closing costs on the new loan? All of these things can affect your ability to refinance the home.

But you can almost always sell your way out of an ARM loan, even in a buyer’s market.

Related articles:

Bottom line: In both scenarios (sell or refinance), there’s a chance you will be stuck with your 5-year ARM loan through the first adjustment period. So have a plan for such scenarios.

83% of Buyers Comfortable Buying Bank-Owned Homes

Apparently, the robo-signing scandal hasn’t scared buyers away from bank-owned foreclosure homes. According to a new survey by the Home Buying Institute, most home buyers are comfortable with the idea of buying a bank-owned property.

Buying Bank Owned

The 2011 Foreclosure Survey was presented to more than 15,000 readers on the Home Buying Institute website, from January 1 – 31. Out of the readers who responded, 83% said they would be comfortable buying a bank-owned foreclosure home in 2011.

Most people also said they expect foreclosure inventories to rise in 2011.

“This survey actually went the opposite direction from what I expected,” said Brandon Cornett, publisher of the Home Buying Institute. “I thought a higher percentage of people would be reluctant to buy a bank-owned home, because of all the ‘robo-signing’ stuff in the news lately. It turns out that most people are comfortable with the idea [of buying a bank-owned property].”

Definition of a Bank-Owned Home

About 10% of respondents did not know what a bank-owned home was. Here’s a quick definition for those who are not familiar with the term. A bank-owned property is one that has been foreclosed upon by the lender. When a homeowner stops making the mortgage payments on a home, the bank that owns the loan will eventually foreclose. This is the legal process through which the bank repossesses or takes back the property. These repossessed homes are also known as REO properties, which is short for real estate-owned by a bank.

Some Buyers Had Concerns

Nearly 7% of respondents said they would not be comfortable buying a bank-owned home in 2011. The three most common reasons given were:

  • Concerned about the condition of the property (most common reason among the “no” respondents).
  • Banks take too long when dealing with buyers. *
  • Home prices are still falling in my area.

* Some of these concerns are valid. But the second item on the list (banks taking too long) is less of a concern today. In the early days of the housing crisis, banks were overwhelmed by the number of foreclosures. They did not have the staff to handle foreclosure processing on the front end (hence the robo-signing fiasco), or on the resale side. So when buyers submitted an offer to purchase a bank-owned home, they would often wait weeks or months before getting a response. But response times have improved considerably since then. Today, most banks have staff dedicated to the resale of bank-owned homes. The larger banks have entire departments managing their REO inventories.

The “Safest” Way to Buy a Foreclosure?

Distressed properties (where the homeowners are falling behind on payments) can be purchased in several ways. You can buy a home that’s in a pre-foreclosure status, before the bank actually forecloses. The short sale is a good example of this. You can also purchase a foreclosure home at a real estate auction. When these properties go back onto the market, they are referred to as bank-owned homes or REO — short for real estate-owned.

Many real estate experts feel that bank-owned homes are the safest bet for buyers, because the title has been cleared and the homeowner is out of the equation.

“From the consumer’s perspective, I don’t think they have a lot to fear as long as they’re able to purchase title insurance on an REO property,” says Ivan Choi, a sales executive for New Vista Asset Management in San Diego.

Still, buying a bank-owned home does have certain risks. For one thing, buyers need to find out what kinds of liens (if any) are attached to the property. According to the foreclosure-tracking service RealtyTrac: “You may have to pay off the liens on the foreclosed property you are buying — even though you’re not the one who didn’t pay the property taxes.”

Tip for Buying a Bank-Owned Home

We recently published a three-part tutorial on buying bank-owned homes. First-time buyers who are considering these properties should read the tutorial. It’s a great place to continue your research. Among other things, the article explains the importance of using a foreclosure-tracking service and hiring an agent who is familiar with the process.

Bank Owned

If you are interested in buying a bank-owned home, we strongly recommend working with an experienced agent. When you make an offer to buy an REO property, your offer will go straight to the bank. There is no homeowner to deal with in this scenario. So the offer-submission process is slightly different from a “regular” real estate transaction. A real estate agent who is familiar with the process can help you prepare your offer, among other things.

Related story:
Why you should consider buying a foreclosure

Survey: Consumers Expect Foreclosures to Rise in 2011

Most consumers expect foreclosure inventories to rise in 2011. This is according to a recent survey conducted by the Home Buying Institute.

The 2011 Foreclosure Expectation Survey was presented to more than 15,000 readers on the Home Buying Institute website, from January 1 – 31. Of those who responded, 77% said they thought the number of foreclosure homes in their area would increase in 2011.

2011 Foreclosure Survey

Rising Foreclosure Rates in 2011?

When asked about local foreclosure inventory in 2011, consumers responded in the following ways:

  • 77% said they expect the number of foreclosure homes to increase in 2011.
  • 17% felt that the inventory of foreclosed homes would stay about the same.
  • 6% thought the number of foreclosures would decrease this year.

The survey suggest that most people think housing recovery is still a ways off, at least from a foreclosure perspective. Or maybe they’re just reading the news. In January, the foreclosure-tracking company RealtyTrac made some ominous predictions about the foreclosure rate in 2011. Specifically, they said the number of foreclosure filings in the United States could increase by about 20 percent in 2011, reaching a peak at some point during the year.

In 2010, there were 2.9 million foreclosure filings. One million of them ended in repossession. This year could break the old record and set a new one. If RealtyTrac’s predictions for a 20-percent increase in foreclosure filings holds true, it would amount to 3.4 million filings in 2011 — and probably well over a million bank repossessions.

In a related survey, 83% of home buyers said they would be comfortable buying a bank-owned home in 2011.

Many feel that job growth is the only way to stem the tide of rising foreclosures. Mortgage-modification programs clearly are not enough. According to Diane Westerback of Standard & Poor’s: “The [loan modifications] cannot cure the entire problem. Maybe if the economy picks up and more people get jobs, that would cure it.”

Unfortunately, the national unemployment rate is expected to hover above 9 percent throughout 2011.

The Effect on Home Prices

An increase in foreclosures will drive up the housing inventory, unless home-buying activity rises to meet it. This is referred to as the “absorption rate.” In 2011, the supply-and-demand picture could remain skewed by excessive inventories. This puts downward pressure on home prices. On the demand side, we also have the “problem” of tighter lending standards. It’s a lot harder to qualify for a mortgage today than it was five years ago. Nine-percent unemployment doesn’t help the situation either.

A handful of real estate markets, like Washington, D.C. and Houston, could actually see some appreciation in 2011. But the general consensus for most other cities is that home prices will either stay flat or drop. How much they drop will likely come down to two factors — foreclosures and unemployment.

Don’t Expect Mortgage Rates to Drop in 2011

Are mortgage rates going to drop lower, remain flat, or increase in 2011? This is one of the most common questions among homeowners and home buyers. It’s also one of the hardest questions to answer. The general consensus among most analysts is that mortgage rates will either stay flat or increase slightly in 2011. Sure, there may be slight dips from one week to the next. But we probably won’t see any significant rate drops (of half a percent or more) for the rest of the year.

Freddie Mac Sees Rates Hovering

Frank NothaftAt the end of 2010, Frank Nothaft (chief economist of Freddie Mac) said he expects fixed mortgage rates to stay below 5 percent in 2011. Adjustable mortgages like the 5/1 ARM loan would likely stay below the 4-percent mark, he added. This reflects what we have seen in January. Based on his comments, he didn’t seem to think that rates would drop in 2011 — at least not significantly.

MBA: Don’t Expect Rates to Drop in 2011

You would expect an industry organization like the Mortgage Bankers Association to have some good insight into this matter. Last week, they shared their insight by predicting mortgage rates over 5 percent in 2011. Specifically, the MBA predicted that the benchmark (30-year fixed) mortgage rate would average 5.3 percent before the end of the year.

This is partly why the MBA expects refinancing activity to fall off a cliff in 2011. According to statements released last week, they anticipate a 66-percent drop in refinance loans this year. Obviously, rising rates have something to do with this. But there’s also a shortage of qualified homeowners. Most homeowners with sufficient equity refinanced last year, when mortgage rates dropped to all-time record lows.

Getting the Best Deal on a Mortgage

When you hear people talk about “average interest rates,” you can think of it as a baseline. From there, the lender will either adjust your mortgage rate up or down. These adjustments are based on your individual qualifications, and how you stack up against other borrowers. If you have a better-than-average credit score and low debt ratios, you’ll probably get a lower rate than the average borrower. And, of course, the opposite is true.

It still behooves you to research average mortgage rates before applying for a loan. You have to know where the baseline is before you can spot a good deal — or a bad one. You can get a snapshot of current rates by visiting the Freddie Mac website. They conduct a weekly survey of lenders in the primary mortgage market (where home loans are originated), and they publish the survey results on their website every week. This is a great place to start your research.

Disclaimer: This story contains forward-looking statements regarding interest rates. Nobody can say for certain if mortgage rates will drop in 2011. The commentary in this article should not be construed as fact.

30-year Fixed Mortgage Rates Above 5% in 2011?

Could 30-year fixed mortgage rates exceed 5 percent by the end of 2011? The Mortgage Bankers Association (MBA) seems to think so. On Wednesday, the banking organization said they expect interest rates on the benchmark  30-year loan to reach 5.3 percent later this year.

I’ll go a step further with my prediction. I think the benchmark rate could exceed 5 percent by the third quarter of 2011, or sooner. Of course, predictions follow market conditions — and never the reverse.

In 2010, we were spoiled with an average rate of 4.7 percent in this loan category.

This week, the average rate for a 30-year fixed mortgage rose again to 4.8 percent, according to the latest data from Freddie Mac. For the week ending January 28, average mortgages rates were as follows:

  • 30-year fixed-rate mortgage: 4.80%
  • 15-year fixed-rate mortgage: 4.09%
  • 5/1 ARM loan: 3.70%
  • 1-year ARM loan: 3.26%

Rising rates are one of the factors that will put a lid on refinancing activity in 2011. A shortage of qualified homeowners is another factor. Most people who were able to refinance have already done so, back when the rates were at record lows. As a result of these factors, the MBA expects mortgage refinance loans to drop by 66 percent in 2011. Purchase loans, on the other hand, are expected to rise this year.

Some Perspective on 30-Year Mortgage Rates

Many industry analysts expect home-buying activity to increase this year. Mortgage rates are attractive but predicted to rise. Home prices are starting to flatten in many areas. These are prime conditions for home buyers — those who can qualify for a loan, at least.

The question many of these buyers want to know is: Should I buy now, or later in 2011? Is it a big deal if rates do rise above 5 percent this year? Answer: It matters, but not that much. Here is some perspective for you…

Let’s look at my monthly payments and the total amount of interest paid in two different scenarios. In the first scenario, I got a 30-year mortgage rate of 4.8 percent (the average rate when this story was published). In the second scenario, I secured a rate of 5.3 percent, which is the MBA’s predicted average for later in 2011. In both scenarios, I’m taking out a 30-year fixed-rate mortgage for $250,000.

  • For a $250,000 mortgage loan with an interest rate of 4.8 percent, my monthly payment would be around $1,311. The total amount of interest paid over the 30-year term would be around $222,190. For simplicity, property taxes and home insurance have been excluded from this calculation.
  • For a $250,000 mortgage loan with an interest rate of 5.3 percent, my monthly payment would be around $1,388. The total interest paid over the 30-year term would be around $249,774. Again, property taxes and home insurance are not included.

The difference in the monthly mortgage payment from the first to second scenario is only $77. Nothing to set your hair on fire. The total amount of interest paid over the 30-year term is obviously more significant. Here the difference is $27, 584. But remember, this is spread out over a 30-year period. It also assumes that you actually hold the original loan for the full term. Most people refinance or sell long before that point. A little perspective goes a long way.

Disclaimer: This story contains forward-looking statements about 30-year fixed mortgage rates in 2011. These statements are based on predictions and should not be taken as fact. We do not make any claims or guarantees as to what interest rates will do in 2011.

California Home Loan Q&A for 2011

2011 California Mortgage GuideWill you be shopping for a home loan in California this year? If so, you’ll find this list of frequently asked questions helpful.

Home buyers in California this year will need to do plenty of research. This goes double for first-time buyers. A lot has changed with California home loans and lenders over the last few years. The subprime mortgage industry has disappeared. Lending criteria have tightened. And the number of financing options has decreased.

But that doesn’t mean you can’t qualify for a California mortgage loan in 2011. On the contrary, a well-qualified borrower can easily get approved for a home loan in California. But therein lies the question. What is a “well-qualified borrower” by 2011 standards? This is just one of the questions we will answer in our California home loan Q&A series.

Home Loan Questions from People Like You

To come up with these mortgage FAQs, we accepted questions from California residents over a 30-day period. We also conducted several online surveys on the Home Buying Institute website. From all of these questions and responses, we made a list of the most frequently asked questions. So without further ado, let’s talk about what it takes to get a California home loan in 2011.

How Do I Qualify For a California Mortgage in 2011?

By far, this is the number-one question on the minds of most home buyers. Even people who have bought a home before are uncertain about the current qualification guidelines. I’ll cover some of those guidelines in just a moment.

But first, a quick disclaimer: Nothing I am about to tell you is written in stone. When you apply for a California home loan, the lender will look at the big picture in addition to the individual pieces. If you measure up well in four out of five areas, they might make exceptions for the fifth area. For example, if you have excellent credit and a good down payment, the lender might be more flexible with their debt-to-income ratios.

With that disclaimer out of the way, let’s talk about what it takes to qualify for a California home loan in 2011.

Credit Score Requirements

The first thing you need is a good credit score. The definition of “good credit” has shifted upward over the last few years. What was considered a qualifying credit score during the housing boom won’t even get your foot in the door today. Here again, there are exceptions to every rule. But you’ll probably need a credit score of at least 620 to be approved for a home loan in California.

The same goes for FHA loans. When you apply for an FHA home loan in California, you must apply through a mortgage lender in the private sector. The federal government insures the loan, but they don’t actually make the loan. In many cases, there are discrepancies between the FHA’s minimum standards and those used by FHA-approved mortgage lenders. Credit scores are a good example of this.

According to the FHA’s guidelines, you could qualify with a credit score as low as 500. In order to qualify for the 3.5 percent down-payment program, you would need a credit score of 580 or higher. Here’s where the confusion begins. Most California mortgage lenders will turn you away if you have a credit score less than 620. Two of the largest lenders in the country, Wells Fargo and Bank of America, recently announced that they were increasing credit-score requirements on some FHA loans.

Bottom line: If you want to qualify for a California home loan in 2011, you’re going to need a good credit score by current standards. While the definition of “good” varies from one lender to another, most are requiring scores in the 620 – 640 range.

Debt-to-Income Requirements

You’ll also need a manageable level of debt. California mortgage lenders will review your gross monthly income in relation to the amount of debt you have. If your debt payments (for credit cards, student loans, retail accounts, etc.) are consuming too much of your monthly income, you will have trouble qualifying for a California home loan. This is another area where there is some variance. Some lenders adhere to very strict guidelines for debt-to-income ratios. Other lenders have more flexible guidelines that take the bigger picture into account.

The general rule for debt ratios is “28/36.” This means your housing-related debt (i.e., mortgage payment) should not exceed 28 percent of your gross monthly income. And your total debt should not account for more than 36 percent of your monthly income. FHA debt-to-income ratios are a bit more relaxed.

We’ve covered some of the most important criteria when applying for a California home loan. We talked about your credit score, your income and your debt levels. The size of your down payment will also determine whether or not you get approved for a particular loan program. And that leads us to the next frequently asked question in our series…

How Much of a Down Payment Will I Need?

This will depend on the type of loan you are using. If you qualify for a VA or USDA loan, you might not have put anything down. But those loans are only available to certain people. If you use an FHA loan (which is a popular option these days), your down payment could be as low as 3.5 percent. For a conventional mortgage loan in California, the lender will probably require at least 10 percent down.

Lenders today want home buyers to have more skin in the game. This was one of the big problems during the housing crash. A lot of mortgages were given out to people who put little or nothing down, and that meant the lenders carried most of the risk. When all of those California home loans started to go belly up, the mortgage lenders took devastating losses. But I don’t need to recount all of this history for you — you’ve seen it in the news countless times. As a result of all this, some of the strategies that were used to minimize down payments in the past are no longer available. And that brings us to the next frequently asked question in the California home loan series…

Are 80-10-10 Piggyback Loans Still Available in California?

Elsewhere in the country, yes. In California, probably not.

I would again remind you that there are exceptions to every rule. But based on everything I’ve read lately (and my discussions with lenders), 80-10-10 piggyback loans are rare in California these days.

For those of you who are not familiar with this term, here’s a quick definition. A piggyback loan strategy is when you use two mortgage loans to buy a house. In the case of the 80-10-10 strategy, you would get a first mortgage for 80 percent of the purchase price. Then you would get a second mortgage for 10 percent of the purchase price (the second loan “piggybacks” on the first). The remaining 10 percent would be paid by you, the home buyer, in the form of a down payment. This is basically a way to avoid paying private mortgage insurance on the loan, because none of the loans would account for more than 80 percent of the property value.

This type of California home loan was extremely popular during the housing boom. But like a lot of the other creative financing strategies in use back then, you don’t see much of them around today. When shopping for a mortgage in 2011, you probably won’t find a lender willing to offer this option. But if you can come up with a 10-percent down payment, then you can probably qualify for the traditional 90/10 mortgage loan. This is where the lender gives you 90 percent of the purchase price, and you make up the difference with your 10-percent down payment. Of course, you’ll have to pay for private mortgage insurance if you go this route.

Are There Home Loans for People with Bad Credit?

This is going to be a short answer. People with bad credit won’t qualify for a California home loan in 2011. It’s going to be a long time before lenders start giving out subprime mortgages again. Giving mortgages to people with bad credit and low income is what wrecked the housing market in the first place. If you currently have bad credit, you should focus on improving your credit score (here’s how). If you can get your score into the mid-600 range or higher, you’ll have a much easier time qualifying for a California mortgage loan.

When Does It Make Sense to Buy A House?

Do you even need to buy a house? This is the first question you should ask. A few years back, some folks in the housing industry came up with the notion that homeownership was the “American dream.” This is silly. The American dream is whatever you want it to be. Some people can live their dreams without ever owning a house. I know plenty of lifetime renters who are perfectly happy to stay that way. You need to make sure that buying a house improves your quality of life, instead of taking away from it. Buying before you’re ready can lead to heartache — financially and emotionally.

Next, you need to evaluate your financial situation to see if you could realistically qualify for a mortgage loan. It’s tough to get a California home loan in 2011. Lenders are looking for higher credit scores, lower debt levels, steadier income, and larger down payments. If you can measure up in all of these categories, then it might be a good time to buy. If you fall short of the minimum requirements, you’re probably not ready to buy.

Lastly, you need to consider the real estate market where you live. California is a big state with a lot of housing diversity. Some markets are predicted to rebound in 2011, while others are predicted to decline even further. Generally speaking, it’s a bad idea to buy a house in a market where the home prices are still declining. If you do that, you could find yourself in a negative-equity situation soon after buying.

Many are predicting that home prices in California will continue to decline through 2011. I would agree with this, for the most part. I think there are some cities that will see home-price increases in 2011. But I think most of California will experience flat or declining home values over the next year. Home sales in California increased 15 percent last month, over the month prior, and that’s a positive sign.

The bottom line is you need to understand what’s going on in your local real estate market. Before you apply for a California home loan, you need to be confident that a home is a good investment. This will require some extensive reading and research on your part. There’s no way around this. But when you consider the size of your investment, it’s easy to justify homework.

Do I Need to Get Pre-qualified Or Pre-approved for a Loan?

I recommend that you get pre-approved for a mortgage before shopping for a house. In most cases, getting pre-qualified is a waste of time. The difference between these two things has to do with the amount of scrutiny on the lender’s part. For a pre-qualification, the lender doesn’t look at much of your financial background. They might only look at your income and then tell you how much of a loan you could get. But when you consider how tough it is to get a California home loan these days, you can see why this kind of narrow assessment wouldn’t be very helpful.

A pre-approval, on the other hand, goes much deeper. Here, the mortgage lender will review all aspects of your financial situation. They will check your credit, review your income and debt levels, etc. In many ways, the mortgage pre-approval is similar to the final approval process — though you’ll provide more documentation for the final approval.

The benefits of getting pre-approved for a California home loan are threefold. It will help you identify any qualification problems you have. It will help you limit your house-hunting process to the size of loan you might get. And it will also make the seller more likely to accept your offer. The seller (whether it’s a homeowner or a bank) wants to know that you’ve been given a green light by a mortgage lender. Granted, the pre-approval does not guarantee you’ll get the loan. But it’s the closest you can get to an actual guarantee before you’ve found a house. So it gives the seller the comfort of knowing your finances have gone under the microscope.

This completes our FAQ series about California home loans and mortgage lenders. If you would like to learn more about the mortgage process or what it takes to get a loan in 2011, you can use the search tool located at the top of this website. There are two sides to the Home Buying Institute. We have the news side you’re reading right now, as well as an educational side. The search tool will give you access to thousands of news stories, how-to articles, and other resources for home buyers.

5/1 ARM Loan: Most Popular Adjustable Loan in 2011

The 5/1 ARM loan continues to be the most popular mortgage loan in the adjustable-rate category. But ARM loans as a whole still only account for about 7 percent of home-purchase loans. This is in stark contrast to their 2004 peak, when 40 percent of all purchase loans were adjustable. This is according to Freddie Mac’s 27th Annual ARM Survey.

What is a 5/1 ARM Loan?

The 5/1 ARM is often referred to as a “hybrid” loan, because it starts off like a fixed-rate mortgage before adjusting. In the case of the 5/1 hybrid ARM, the loan carries a fixed interest rate for the first five years. That’s what the first number signifies. After the initial fixed-rate period, the interest rate will begin adjusting every year. That’s what the second number signifies.

You can learn more about the 5/1 hybrid ARM loan in this article on our blog. The video below (courtesy of SketchNest.com), gives you an illustrated example of how these loans work.

According to Freddie Mac’s survey, nearly all lenders who offer adjustable-rate mortgages offer the 5/1 ARM variety. Some lenders offer hybrid loans with a longer term, such as the 7/1 and 10/1 ARM loans. These mortgage behave the same as the 5/1 ARM, but the initial fixed-rate period is seven or ten years respectively. These options are not as widely offered as the 5/1 hybrid. Only 64 percent of the surveyed lenders offered the 7/1 option, and only 23 percent offered the ten-year ARM.

The most popular mortgage category of all is still the 30-year fixed-rate mortgage.

Adjustable Mortgages Get a Bad Reputation

Adjustable-rate mortgages developed a bad reputation during the housing crisis. During the housing boom, mortgage lenders were using these loans to entice buyers. The loans would often come with a “teaser rate” that was significantly lower than the rate on a 30-year fixed mortgage. But when these loans started adjusting to a higher rate, many homeowners saw their mortgage payments double. This was widely reported in the news, which is why home buyers today are wary of the ARM loan.

“Homebuyers have shied away from ARMs because they are wary of the risks,” said Frank Nothaft, vice president and chief economist at Freddie Mac. “The potential for much larger payments if future interest rates are significantly higher … have led consumers to prefer fixed-rate loans instead of ARMs.”

Related story: The Decline of Adjustable Mortgages in 2011

When It Might Make Sense to Use an ARM Loan

In some home-buying scenarios, it might make sense to use an ARM loan. If, for example, you only plan to stay in the home for a few years, the 5/1 hybrid ARM might work out to your advantage. You could secure a lower interest rate for the first five years (when compared to a fixed-rate loan), and then you would sell the house before the uncertainty of the adjustment period.

Of course, if you’re unable to sell the home for some reason, you might be stuck with the ARM loan. This is what happened to hundreds of thousands of homeowners over the last few years.

You also have to consider the interest-rate differential between adjustable and fixed-rate mortgages. If the ARM loan rate is only slightly lower than the (more predictable) fixed mortgage, it wouldn’t make sense to take on the risk of an ARM. This is what we are seeing right now. According to Frank Nothaft of Freddie Mac: “Fixed-rate loans currently carry extraordinarily low rates, and initial ARM rates are only slightly lower, making fixed-rate product more attractive.”

Why You Should Consider Buying a Foreclosure Home in 2011

Planning to buy a home in 2011? If so, you should also consider buying a foreclosed home. There will be plenty of them to go around in 2011, and they typically represent a good deal for buyers.

According to the folks at RealtyTrac (who know more about foreclosure stats than you and I, and just about everyone else), 2011 could be a record year for home foreclosures. They expect foreclosure filings in the U.S. to climb by as much as 20 percent in 2011. That’s astounding, when you consider the amount we had in 2010.

Rick Sharga, senior vice president at RealtyTrac, thinks we will see a peak in foreclosures in 2011. The hardest-hit areas, he said, will continue to be those that were overbuilt, overheated and overpriced during the housing boom. This includes places like Phoenix, Las Vegas, South Florida, and the central valley of California — among others.

But regardless of where you live, there are bound to be foreclosed homes available in your area. These homes can be a good deal for buyers. They are often priced a little below their true market values to ensure a quick sale. In some cases, they’re priced well below market value. When you consider the sheer volume of foreclosure properties, and the potential savings they bring, you can see why they are worth considering.

3 Ways to Buy Foreclosures in 2011

Buying a foreclosure home is not for everyone. No matter how much they research the process, some buyers are simply not comfortable with it. And that’s okay. There are plenty of homes available through traditional sales as well. The following information is for the hardier souls, those who are willing to brave the potential uncertainty of buying a foreclosed home.

So, how do you go about buying a foreclosure home in 2011? What are the steps involved? First, you need to understand the different stages in the foreclosure process. The process varies from one state to another (based on state laws), but the basic stages are the same:

1. Pre-foreclosure: John Doe falls behind on his mortgage payments. Maybe he lost some of his income, or perhaps his mortgage payment increased in size due to an ARM loan adjusting. Two or three months after falling behind on the payments, John receives a notice of legal action from the lender. This is the pre-foreclosure stage, where the homeowner has defaulted but the lender has not yet foreclosed on the property. When the lender files a legal record of the homeowner’s default, it becomes public information. During this stage, John might try to get back on track. He could do this through reinstatement, or one of several other foreclosure-avoidance options. He might even sell the home through a short sale, with the lender’s permission. This is one way to buy a foreclosure in 2011 (or a pre-foreclosure, to be exact). If none of these options work out, the bank will eventually foreclose on the home.

2. Auction: This is often the next stage in the foreclosure process, after the bank forecloses on the home. At this point, the homeowner has been evicted from the property. Next, the bank wants to sell the home as quickly as possible, since it’s a “non-performing asset.” An auction is one way to go about it. Bidders who have cash in hand can bid on the home. Generally, their bids must be above a certain starting point. If the property is sold through auction, that’s the end of it. If it’s not sold at auction, the home goes back on the market as a bank-owned house. Sometimes the auction process is skipped entirely. For example, if the bank feels there’s not enough local demand for such properties, they might skip the auction and just list the home on Realtor.com, RealtyTrac.com and similar websites.

3. Bank-owned home: When a foreclosure home comes back on the market for sale, it’s usually referred to as a bank-owned home. You can find these homes listed on the two websites mentioned above. The home might have been through an auction prior to reaching this stage, or the bank / lender might have skipped the auction. Either way, you can be fairly certain that the homeowner who defaulted is now out of the picture entirely. From a buying standpoint, most experts agree that this is the safest stage of the process. You might not get the kind of deal you would get during an auction. But you can probably rest assured that the home is “free and clear” of any liens or other legal claims. Learn more about buying bank-owned homes.

Bank Owned

So how much money could you save by buying a foreclosure home in 2011? This depends on who you ask. It also depends on the kind of market you’re in, particularly the supply and demand situation. Most sources say the average savings is 5 – 15 percent off market value.

But this brings up another question. How much is market value? To answer this question, you need to look at comparable sales, or comps, for the area where you plan to buy. Try to find sales data from regular transactions (not short sales or foreclosures). This will give you an idea where the market is, in terms of home prices. It will also help you spot a good deal, whether it’s on a foreclosure home or a regular property listing.

Government Mortgage Assistance for California Homeowners

Taxpayers from all over the country are chipping in to help unemployed California homeowners with their mortgage payments. More or less. The Unemployment Mortgage Assistance Program (UMA) will use federal funds to give mortgage-payment assistance to unemployed homeowners in California. This will undoubtedly be a popular topic among Californians in 2011, so we have put together a fact sheet with the pertinent details.

Mortgage Assistance for the Unemployed

The Unemployment Mortgage Assistance Program went into effect this month, January 2011. The program is managed by the California Housing Finance Agency (CalHFA). This program uses federal funds to provide temporary mortgage assistance for California homeowners who have lost their jobs. Homeowners must meet other eligibility criteria, in addition to being unemployed. A partial list of criteria can be found below.

The purpose of the program is to provide financial assistance to California homeowners who have lost income due to unemployment. The funding allows the homeowners to make their mortgage payments for a period of time, while they seek additional employment. So it’s an unemployment and foreclosure-avoidance program rolled into one.

California homeowners who are unemployed and meet other eligibility criteria could receive $3,000 per month or 100 percent of their mortgage payment, whichever is less, for up to six months. Again, the goal here is to provide enough mortgage assistance to help homeowners avoid foreclosure, until they are able to find new employment.

Eligibility Criteria for California Homeowners

In order to be eligible for the mortgage assistance program, California homeowners must meet the following criteria (at a minimum):

  1. Income limitations: The unemployed homeowner must meet the program’s definition of “low- to moderate-income” household. This means the borrower’s income cannot be more than 120 percent of the HCD Area Median Income for a family of four, in the county where the homeowner currently lives. Learn more (PDF)
  2. Hardship: The unemployed homeowner must complete a form that documents the reasons for their financial hardship (e.g., reduced income resulting from a job loss). This form is called the Hardship Affidavit / 3rd-Party Authorization. This is the start of the paperwork process for the California mortgage assistance program. Borrowers will be asked to provide a variety of other financial documents as well. The loan servicer or housing counselor will provide a list of these documents.
  3. Unemployment: The homeowner must be eligible to receive unemployment benefits in the state of California.
  4. Default: The unemployed homeowner’s mortgage loan must be delinquent (behind on payments), or at risk of “imminent default.” This must relate to the loss of employment, and it must be clearly outlined in the hardship letter described in item #2 above.
  5. Origination: The homeowner’s first mortgage must have been originated on or before January 1, 2009.
  6. Balance: The current mortgage balance (unpaid principal) cannot be more than $729,750. This number might look familiar. It’s the conforming loan limit for high-cost areas such as California, set forth by Fannie Mae and Freddie Mac.
  7. Participation: Your mortgage lender or loan servicer must be actively participating in this program. Participation is option for lenders. At present, only a handful are involved. But the CalHFA expects more loan servicers to join in soon.

Homeowners who meet all of the criteria listed above may be eligible for the California mortgage assistance program. Final eligibility will be determined by counselors with the California Housing Finance Agency, or the loan servicer who is currently servicing the mortgage loan.

Where to Learn More

If you would like to learn more about the mortgage assistance program for California homeowners, please contact the California Housing Finance Agency. You can also visit the website they’ve set up for this program: www.keepyourhomecalifornia.org. At the time this article was published, they were instructing homeowners to call: 888-954-KEEP. But you should check the aforementioned website for current instructions and guidelines.

30-Year Mortgage Rates Going Into 2011 – 4.86 Percent

Happy (almost) New Year! The benchmark 30-year mortgage rate rose to 4.86 percent this week, according to the latest data reported by Freddie Mac. Rates in other mortgage categories are up as well, with the exception of the 1-year ARM loan. Going into 2011, we can probably expect more of the same.

This is the highest the average 30-year rate has been since May 2010. It also aligns with many of the mortgage predictions compiled in our housing market predict-o-meter. The consensus of those predictions is that rates will gradually trend upward throughout 2011, perhaps reaching or exceeding 5 percent by year’s end.

While these rates are attractive, they don’t erase the concerns people have about falling home prices. Indeed, prices are still falling in many cities across the country. Many would-be home buyers are rightfully concerned that depreciation in home values would wipe out the benefits of getting a low mortgage rate. It’s a valid concern, and it will keep a lot of buyers on the fence for now.

The average rate for a 15-year FRM rose slightly from 4.17 to 4.2 percent. The 5/1 ARM rose from 3.75 to 3.77 percent. Again, this is according to Freddie Mac’s weekly survey of the primary mortgage market. It is considered one of the most accurate “snapshots” of current mortgage rates in the U.S.

Putting the Rates in Perspective

This kind of news may come as a shock to potential home buyers. After all, 30-year fixed mortgage rates have risen steadily for the last seven months. But let’s keep it in perspective. At this time last year (December 31, 2009), the average rate for a 30-year fixed-rate mortgage was 5.14 percent — compared to the current average rate of 4.86 percent, as we head into 2011. For a while there, we were spoiled by record-low rates near 4 percent. But you can’t expect that kind of thing to last forever.

In a nutshell: The cost of borrowing will remain relatively low for most of 2011, though we’ve probably seen the last of the record-low rates. Housing costs are equally affordable. In fact, some economists are predicting a double-dip in home prices throughout much of the country. For a qualified home buyer, the 2011 housing market could be a kid-in-the-candy-store scenario.