The mortgage rates dropped again. I'm refinancing my mortgage again. It's remarkable it hasn't been even a year because I did it last time.
The rates were low last year due to the fact that of the anticipation for QE2. Once QE2 began, rates increased. Now rates are low again. Why? I don't understand. Maybe the marketplace is anticipating a QE3.
This time, instead of following my typical Stepping Down the Ladder script, I'm refinancing my home loan to an ARM with a money out. Before you call me crazy for choosing an ARM when rates are lower than ever, bear with me and check out to the end.
Stepping Down the Ladder
Stepping Down the Ladder indicates re-financing to a fixed rate a little above the market rate, with adequate credit from the lender to cover the closing expense. Rinse and repeat whenever the rates go lower once again.
It's a no-lose proposition. You begin benefiting from the lower rate on day one. As the rates go lower, you keep securing to a lower rate, and never pay any closing expenses. Repeat this procedure till the rates reach the bottom. Because the rate is repaired, your rate will remain at the bottom.
10-Year and 15-Year Fixed Rate Mortgages
When I took a look at re-financing this time, I began with the exact same technique. Because I have a 15-year fixed rate home mortgage now, I took a look at 15-year repaired and 10-year fixed alternatives.
If I opt for another 15-year repaired, the very best rate I can get is 3.625% with no closing expense. It's barely beneficial since my current rate is 3.75%. If I opt for a 10-year fixed, I can get 3.25% with no closing cost.
Between these 2 options, I would select the 10-year repaired. I have actually had a 15-year fixed mortgage for a couple of years now. I wish to pay it off in 10 years.
5-Year Adjustable Rate Mortgage (ARM)
I normally do not take a look at ARMs at all, due to the fact that the entire idea of Stepping Down the Ladder has to do with locking in the most affordable rate for the life of the loan. But considering that I was considering a 10-year repaired, I likewise looked at ARMs.
A 5/1 ARM has a fixed rate for the very first 5 years. The rate starts adjusting each year after five years. If I'm going to pay off in 10 years, by the sixth year the staying balance will be small enough that I can pay off if I desire to. If I do not like the rate at that time, I will simply pay it off. Meanwhile I will have saved a fair bit of interest in the first 5 years.
If I go with a 5/1 ARM, I can get 2.75% with no closing cost.
Cash Out Refi
A cash-out refi indicates borrowing more than the present loan balance. Usually you will pay a higher rate and/or greater costs if you refinance with a cash-out. However, if your loan-to-value ratio (LTV) is low enough, there is a ceiling you can go to without incurring a penalty for cash-out.
Why take money out? Because the lending institution credit is related to the loan quantity. Within specific limits, the greater the loan quantity, the greater the lender credit. When the lender credit is high enough, it will have the ability to bump the rate down a notch and still make it a no closing cost loan.
For example, suppose the lender credit for a $100k loan is $1,000 at 2.625% and the total closing expense is $2,000. It suggests the net closing cost is $1,000 for the 2.625% rate. To make it no cost you will need to go to 2.75%. However, if you increase the loan total up to $200k, the lending institution credit will be $2,000, enough to cover the closing expense. Then the $200k loan will be no expense at 2.625%.
If I increase the loan amount to the maximum allowed, I can get a 5/1 ARM at 2.625% with a net $900 paid to me at closing in addition to the cash-out. I got this deal.
I'm utilizing the very same lender I utilized last time: First Internet Bank of Indiana ("FirstIB"). For the loan I desire, FirstIB offers the best offer amongst a brief list of loan providers I looked at: PenFed, National Mortgage Alliance, and AmeriSave.
Won't borrowing more increase the overall interest paid? Yes, if you only pay the minimum. Because the loan has no prepayment charge, you can pay the cash-out right back in the very first month. The only impact of a greater loan amount will be a greater required monthly payment amount. Since I'm going to follow a 10-year reward schedule and the 5/1 ARM utilizes 30-year amortization, the greater needed monthly payment is still lower than what I'm going to pay anyway.
For instance, to settle $100k in 10 years at 3.25%, I will have to pay $977 monthly. The required regular monthly payment on a $200k 5/1 ARM at 2.625% with a 30-year amortization is $803. If I borrow $200k, pay back $100k instantly and keep paying $977 a month, the remaining $100k will still be settled in ten years.
Borrow More to Invest?
I considered keeping the cash-out and investing it. After all, it's hard to see how I can't earn more than 2.625% a year from my financial investments. A five-year CD from Melrose Credit Union pays 2.90% a year. If I just pay the needed minimum month-to-month payment and put the cash-out and the additional primary payments in a CD, as long as the CD rate is higher, I will come out ahead. The tax on the CD interest and the tax deduction on the home loan interest will be a wash.
If I put the additional money in a worldwide varied portfolio of stocks and bonds, the return has to be higher - if I don't believe that I need to simply liquidate everything, settle my home loan, and put the rest all in CDs. Everybody who is carrying a home mortgage and investing at the very same time is betting the financial investments will make more, otherwise they would not invest before the loan is paid off.
But expected returns are just that - anticipated. You can bet and expect all you desire. The real returns might come higher or lower than your expectation.
Although the idea of generating income with other individuals's cash is appealing, I'm not yet that comfy with it. I may still do the CD but that has to do with it. I don't wish to take more risk with this money.
Rates Have Nowhere to Go But Up?
You might think rates have no place to go but up which it's shortsighted to get an ARM now when rates are the most affordable. You might believe 5 years from now interest rates will be much higher.
I believed the same every time I refinanced in the last 10 years but rates keep coming down, reaching one historic low after another. I honestly believed it was the last opportunity to refinance in March 2010. That was 2 refinances ago.
The market has defied all forecasts of greater rates. I will stop stating this will be my last re-finance. It won't amaze me if rates go in any case: considerably higher or substantially lower. If rates decrease once again, I will re-finance again with an ARM and extend my 5-year fixed rate period.
When you are within 10 years to settling your home mortgage, re-financing to an ARM can save you cash compared to a 10-year fixed rate home loan. The rate is lower. So are the closing costs (for instance PenFed charges a 1% origination cost on all repaired rate mortgages, but not on ARMs).
Taking a squander and paying it right back will decrease the closing costs. You might even earn money for doing the refinance. If you are going to pay off in ten years anyhow, it's totally free money.
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Reader Interactions
Comments
1. Money Beagle states
June 13, 2011 at 5:50 am
I would re-finance in a heartbeat if it were possible, but the equity in our house is well below what the banks would consider in providing us a PMI-free loan w/o escrow (which is what we have today due to the truth that we put 20% down at the time). If I were able to re-finance I would definitely think about an ARM. Even if rates were greater a couple of years down the road, the quantity of principle I 'd have the ability to pay for in the mean time would most likely well balance out any possible uptick down the roadway.
2. David states
June 13, 2011 at 7:39 am
Very intriguing analysis. Did you think about the PenFed 5/5 ARM? If so I wonder about your thoughts on that. I have actually looked at that over the last few years whenever there was a dip in rates but I constantly wound up choosing the "more secure" repaired rate loan.
3. Harry Sit says
June 13, 2011 at 9:27 am
@David - Yes I thought about PenFed's 5/5 ARM. It's presently 3.25% for the very first 5 years, versus 2.625% on the 5/1 ARM from FirstIB. If I'm going to pay 3.25%, I may as well get the 10-year repaired at 3.25% from FirstIB without any closing cost. For my loan, the PenFed 5/5 ARM isn't as great as the offers from FirstIB.
4. Mike says
June 13, 2011 at 10:46 am
Interesting technique. What is the max. LTV ratio you can squander without being penalized?
5. Harry Sit says
June 13, 2011 at 10:47 am
@Mike - 60%.
6. TJ states
June 13, 2011 at 6:00 pm
Has teh no closing cost expired? I do not seem to see that option ...
7. Harry Sit states
June 13, 2011 at 8:30 pm
@TJ - FirstIB just lists rates with closing cost. The next greater rate will have no closing expense. For instance if the greatest rate (lowest costs) listed is 3.5%, 3.625% will have no closing expense.
8. enonymous says
June 14, 2011 at 11:08 am
good analysis
obviously 60% LTV, and small sufficient balance to be able to reward the loan with a balloon payment at the end of the 5 years is the key
the Penfed 5/5 is a significant offer at 3.25% (if that is stll there) specifically for those with jumbo mortgages. but it is not a good deal for those in TFBs exact situation ...
I remain in a 15 yr fixed, doing the refi thing yet again (always no closing costs), and the 5/5 or 5/1 or even 7/1 ARMs didn't make good sense to me, mainly due to the fact that I'm unwilling to to make the big balloon payment needed to be safe with a 5/1 or 7/1, and since the 3.25 5/5 ARM isn't low enough to lure me from my 3.75% 15 yr repaired ...
9. ChrisCD says
June 17, 2011 at 7:59 am
Forgive me, but I am unclear how the no-closing costs deal works. Whenever I have looked they have desired to wrap the expenses into the loan which isn't what I am looking to do.
In addition, our home worth has actually dropped low enough to make it the alternative seem out of reach.
cd:O)
10. Heidi says
June 18, 2011 at 4:54 pm
Money Beagle - I was in a similar situation. After calling several banks (due to the fact that their website calculators regularly concluded that I would not get approved for their mortgage due to my LTV), I found Connexus Credit Union. They let me do an 80/20 to prevent PMI just last December and I conserved over a $1,000 a month on my extremely jumbo mortgage. I have actually considering that settled the HELOC and am settling the 25 year 3/3 ARM over a 10 year amortization. You might want to try providing a call.
11. Madison states
June 22, 2011 at 6:38 am
I keep decreasing our 5/5 ARM at penfed with a strategy to pay off in 5-10 years. And much like you, I believed each time it could not go lower. We're at 3.375% on our 5/5, and now naturally, I see rates are even lower again!
I'll have to take a look at FirstIB, I had not checked out their ARMs lately.
12. TJ says
June 23, 2011 at 9:26 pm
@TFB - I see an alternative without any points, but this alternative still has $2k in fees (origination charge, appraisal, credit report, flood cert, title insurance, government recording charges)
13. Harry Sit states
June 23, 2011 at 10:59 pm
@TJ - If you want the no charge choice, add 0.125% to the greatest rate listed. You need to call them.
14. TJ says
August 7, 2011 at 4:08 pm
@TFB do you have any experience with boxhomeloans. com?
I got better rates for a 30 year than any other sites. I locked it but due to the fact that it was "after hours" (the weekend), they can't validate until Monday, if it is lower than what i locked, mine will be the lower rate, if rates go on monday, they will disregard my demand and I need to resubmit a lock request.
15. Harry Sit states
August 7, 2011 at 6:16 pm
@TJ - Sorry, I do not have any experience with Box Home Loans. Maybe examine the FatWallet thread?
16. extremely bill says
February 19, 2012 at 7:27 pm
First IB looks appealing for a 5/1 ARM. However, I live in Maryland and it appears that they do not lend here. Do you know if this holds true and if so, could you recommend other institutions? I am seriously considering the PenFed 5/5 at 3.125% without any closing ... Thanks for an excellent website.
17. Harry Sit says
February 19, 2012 at 8:12 pm
@super bill - Several other readers also reported the same thing. You can always call their 800 number to validate if it's still the case. If so, go with PenFed then. Maryland has a transfer tax. It'll be very difficult to beat the PenFed rate when you consist of the transfer tax, which PenFed says it covers.
"5/5 Adjustable Rate Mortgage (ARM) Promotion: We will pay closing costs as much as $10,000 per loan, to include: Appraisal charge, Tax Service Fee, CLO Access Fee, Title Fees, Transfer Tax Fees, Credit Report Fee, Flood Cert Fee, Recording Fee, Survey if required and Work Verification Fee."
18. very bill states
March 12, 2012 at 10:55 am
TFB - just wished to act on my publishing. I appled for the PenFed 5/5, which appeared excellent, but their appraisal was available in way low - about 120k under what our last appraisal was one year ago. Therefore, our loan amount exceeds their limitation provided the assessment. I am trying to appeal however in the meantime, desired to see if you or others had other recommendations for a 5/1ARM or interest just item without any closing expenses? (BTW, I talked to FirstIB, and they do not provide to MD) Thanks once again.
19. Harry Sit says
March 12, 2012 at 12:55 pm
@super expense - Too bad the PenFed appraisal came in low. I hope you will have the ability to effectively appeal it. Maybe they can request another one? The other two loan providers on my brief list to inspect are NMA (nmaloans.com) and AmeriSave (amerisave.com). Also check the [long] FatWallet thread.
Reply
20. Jc states
July 6, 2012 at 8:52 am
If my lyv is 50% and I refi from a 30 to a 15yr repair, and money out 50,000 and after that repay the 50,000 towards the principal, it seems i will be conserving a huge amount of interest every month. Exists a draw back to this besides a greater monthly payment?
