# Adjustable Rate Mortgages vs. Fixed rate - Posted by Steven

Posted by Wayne-NC on January 11, 2004 at 17:52:59:

Your numbers are good. Banks can do this transaction all day long providing your credit, income, and equity are within guidlines. There is also another stat that banks follow closely and it is the debt to income ratio. When buying another property the banks will look at the new, increased payment along with the new purchase money mortgage and factor it in accordingly. This is the way I started and it is a technique called equity transfer. Now, that means money is not really spent. Just be sure that the equity loc payment is factored into the cash flow projections of the new purchase. Finally as you said, “many banks won’t allow”. Some do, wait, many do, so you just have to shop around. If you have a good credit score the world is your oyster for REI.

Adjustable Rate Mortgages vs. Fixed rate - Posted by Steven

Posted by Steven on January 11, 2004 at 07:47:19:

I have a question regarding Adjustable Rate Mortgages vs. Fixed rate.
As an example take a 250,000 load at 30 years at 5.5%
Monthly Payment = \$1,419.47

Now look at Adjustable rate - 1 year rate @ 3.125%
Monthly Payment = \$1,070.94.

My question is with a 1 year adjustable rate is the mortgage payment
recalculated EVERY year based on the new rate and TIME REMAINING?
So after year 1 I have a balance of 240,778 and say the rate increases 0.25%
So my new payment would be \$1,085.76 based on 240,778 and 3.375 and 29 years?

I made some calculations comparing a fixed 30 vs. a 1yr variable rate loan.
At the end of 15 years with the fixed rate I would pay ~188K in interest
But Assuming the Variable rate INCREASES 0.25% per year then in the same 15 years
I would pay 126K in interest and even though my rate went from 3.125 to 6.625 over this time.
My payment actually stayed ± \$62 of my original payment in year 1 because of the decreasing balance. This decreasing balanced offset the increased rate and reduced term.
Over all this looks like a better deal so far. Am I missing something here (except the risk of rates increasing much faster)

Lastly I have seen monthly adjustable rates at 1.75% - Are there any big advantages with these super short adjustable rates?

Re: Adjustable Rate Mortgages vs. Fixed rate - Posted by rm

Posted by rm on January 13, 2004 at 12:54:34:

When I was a Re-la-tor, I showed many of my clients how to use this strategy to buy more house/build more equity/save money in less time.

We showed them the “worst-case scenario.”

If your rate went up the maximum allowable every single time for the next 5 years, could you handle the payment?

That was the touchstone.

There was a great 3/3 ARM a bank had here, locally. \$500 to switch from the ARM to a fixed-rate product.

We’d buy a house priced such that the payments were doable based on the fixed loan payment amount, use the ARM, and either make the fixed payments on it, or invest the difference.

'Twas a beautiful thing.

So, run the numbers, figure what the worst-case scenario is, and make a plan to handle it if it happens.

As long as you’ve defined the risk and know what to do if things don’t go your way, you’ll be fine.

Re: Adjustable Rate Mortgages vs. Fixed rate - Posted by Smart Money

Posted by Smart Money on January 12, 2004 at 24:00:17:

Steven,

Re: Adjustable Rate Mortgages vs. Fixed rate - Posted by Wayne-NC

Posted by Wayne-NC on January 11, 2004 at 10:34:33:

Steve, you learned what I like to call “the money game” real well. I have used adj rate mortgages many times for just that reason. The new rate is applied to the unpaid balance for the term remaining. In theory, as time passes, that is the only mortgage where the interest rate can go up and the payment actually drop! Now, what is the purpose of this purchase (primary or investment) and how long do you plan to keep it? I have gotten in the practice of using HELOC’s for my first mortgages because the closing costs are low and the flexibility is great. The rate is still adjustable and I am used to that. When rates rise beyond my rate of return I just pay it down. My payments are interest only as a minimum. A word of caution, be careful of how you use it like anything else.

Re: Adjustable Rate Mortgages vs. Fixed rate - Posted by Steve

Posted by Steve on January 11, 2004 at 07:56:19:

Forgegot to add that I added ~\$348 mothly or \$4182 per year to the adjustable rate (the initial difference in payments between the fixed and variable rate.)
If I make no additional extra payments I still pay less interest over the term and my monthly payment goes up by ~\$400 in 15 years but I still pay

Re: Adjustable Rate Mortgages vs. Fixed rate - Posted by Steve

Posted by Steve on January 11, 2004 at 11:27:06:

I am looking for a home and have horizon of about 7 years so interest would still be saved over this term with adj.

What is HELOC?

Re: Adjustable Rate Mortgages vs. Fixed rate - Posted by Wayne-NC

Posted by Wayne-NC on January 11, 2004 at 12:31:43:

HELOC is an abreviation for Home Equity Line of Credit. I have been using them lately to refi my higher rate first mortgages. I am now paying between 4-4.5% as the cost of my investment capital.

Re: Adjustable Rate Mortgages vs. Fixed rate - Posted by Steve

Posted by Steve on January 11, 2004 at 12:36:57:

You said you were using Home Equity Loans as a First Mortgage to reduce closing costs? How does this work?
Thanks

Re: Adjustable Rate Mortgages vs. Fixed rate - Posted by Wayne-NC

Posted by Wayne-NC on January 11, 2004 at 15:07:26:

I have a fixed rate mortgage already in place. I would then apply for an HELOC for an amount greater than my current first mortgage and up to the max LTV that the bank would allow. When approved the line then pays off the first and I have one big Line Of Credit with the balance for any purpose that I chose. This loan can be obtained sometimes with no closing costs if the lender is having a promotion. This is the cheapest way to do a cash out refi and lower your payments in the process.

Re: Adjustable Rate Mortgages vs. Fixed rate - Posted by Steve

Posted by Steve on January 11, 2004 at 15:24:40:

Wayne
I could see getting a HELOC on a house that is already paid for and using those proceeds to purchase a second house using that cash.

But I have never heard of anyone lending more than
the available equity. So for example if you have property worth 100,000 and first balance of 60,000. The equity would be 40,000 and a bank would loan 80%-100% of that amount. So most I can see is you pulling out 32,000 to 40,000.

Am I missing something here?

Actually, quite a bit - Posted by Wayne-NC

Posted by Wayne-NC on January 11, 2004 at 16:24:24:

First of all your calculations are wrong. Using your example, a property that appraises at 100K would have a total LTV of 80K minus 60K leaving 20K as lendable equity. Now, some banks have lent up to 125% LTV on a property but all the interest is not deductable. I usually borrow up to 80% because the rates are better. Second, what I do is PAYOFF my first mortgage with the HELOC. Again, using your example I would get a line of credit in the amount of \$80K that immediatly pays off the 60K first leaving 20K as usable equity. (Also I might mention here that you only pay interest on what you use or borrow. For example, if you establish a LOC on a property with no current mortgage, there would be no payments until you borrow). This gives the bank a first mortgage and me cash to use as I see necessary (key word here). When I sell any other property, the cash proceeds are sent to the bank as a big payment till the next investment comes along. Better saving 4% than earning 1% in some other liquid account like savings or money market. Get the picture?

Re: Adjustable Rate Mortgages vs. Fixed rate - Posted by JC

Posted by JC on May 12, 2006 at 12:07:34:

Wayne,

I understand most banks give LTV based on actual purchase price not appraised value(which is normally higher) correct? Meaning if I purchase below market like 20% discount, I don’t even have to come up with down payment? Thx

"First of all your calculations are wrong. Using your example, a property that appraises at 100K would have a total LTV of 80K minus 60K leaving 20K as lendable equity. Now, some banks have lent up to 125% LTV on a property but all the interest is not deductable. I usually borrow up to 80% because the rates are better. Second, what I do is PAYOFF my first mortgage with the HELOC. Again, using your example I would get a line of credit in the amount of \$80K that immediatly pays off the 60K first leaving 20K as usable equity. (Also I might mention here that you only pay interest on what you use or borrow. For example, if you establish a LOC on a property with no current mortgage, there would be no payments until you borrow). This gives the bank a first mortgage and me cash to use as I see necessary (key word here). When I sell any other property, the cash proceeds are sent to the bank as a big payment till the next investment comes along. Better saving 4% than earning 1% in some other liquid account like savings or money market. Get the picture? "

Re: Actually, quite a bit - Posted by Steve

Posted by Steve on January 11, 2004 at 16:40:48:

Yes, I see - Thanks!
I currently have a property worth about \$300K
IF I apply for a HELOC of 80% then I can borrow up to \$240K. My payoff is \$195K So I get the \$240K and pay off the mortgage. Then I have \$45K available to me.

Is this a common transaction with most banks or brokers?

Can I use that \$45K for a downpayment on another property? Or would that be considering “borrowing your down payment” which I have found many banks wont allow?

Well, no. - Posted by Wayne-NC

Posted by Wayne-NC on May 14, 2006 at 10:41:51:

Banks lend on either purchase price or appraised value, whichever is LOWER. My post is over 2 years old and since that time the interest charged on HELOC’s is currently up to 8%. Thought I would mention that. Secondly, I have since learned (or maybe a change was made) that banks can be pursuaded to lend on the actual appraised value. I’m sure that can open the door to mortgage fraud and a host of other irregularitys but life goes on. It should also be noted here that very reliable source recently said that it can be done with banks although I haven’t had the need yet to find out how. You may want to ask that source on this board-Ed Garcia.