Friday, December 24, 2004

Homebuyers, shop around for perfect mortgage


Shopping for a mortgage is like buying a suit: One size does not fit all.

When it comes to choosing the length of a mortgage, consumers have more choices than ever. The most popular loans are still the 15- and 30-year fixed mortgages, but few buyers realize that they can also shop fixed-rate loans that span 10, 20, 25 or 40 years. Or they can adjust the length of their mortgage by paying additional principal as they go along.

About 35 percent of homebuyers are going for hybrid loans, which offer a few years of a fixed rate before switching over to an adjustable rate, says Doug Duncan, senior vice president and chief economist with the Mortgage Bankers Association, an industry trade group.

The three basic things to consider: What's the best rate you can get? How much is the monthly payment? And, most important, how does the payment and payoff date fit in with your financial plans?

"The basic issue is one of affordability," says Jack Guttentag, author of "The Mortgage Encyclopedia" and professor emeritus of finance at the Wharton School of Business. The shorter the term, the lower the interest rate. So the shortest term the consumer can afford is often the best overall deal, he says.

Ask yourself what payment you can comfortably afford when you allow for savings, retirement and other obligations, says Eric Tyson, author of "Mortgages for Dummies."

"The bigger issue that needs to be examined is how good a job is the person doing in saving money," he says. "One of the drawbacks of a shorter-term mortgage with higher payments is it may cause you to neglect savings into a retirement account."

Here are some options:

15-year fixed-rate mortgage: You'll get a lower rate than with a 30-year mortgage, but a stiffer monthly payment to go with it because of the shorter term. Is it something you can handle comfortably and still meet all your other financial obligations?

"You've got to have the emergency reserves and the financial wherewithal that you can handle job loss or any other curve balls that come your way," says Tyson. "It's a good thing, but a riskier strategy."

30-year fixed-rate mortgage: The old reliable. It offers a higher interest rate than the 15-year mortgage, but sweetened with a lower payment. If you're really risk averse, you may want a 30-year fixed loan, says Chris Farrell, author of "Right on the Money!" "Then you lock in today's low rates forever."

40-year fixed-rate mortgage: You have to shop it to see if it makes any sense for you. Is the monthly debt that much lower to make it worth paying an extra 10 years of interest? "Impact on the payment is very small," says author Guttentag.

Nontraditional term fixed-rate mortgages (such as 10-, 20- and 25-year mortgages): To get one of these, you might have to approach lenders individually to ask what they would charge for a loan term you need.

Hybrid adjustable-rate mortgages: The most popular types of hybrids give the borrower a fixed rate for one, three, five, seven or 10 years, then convert to an adjustable-rate mortgage. The upside: The rate is often cheaper than your typical 30-year fixed rate, and most people stay in one home for about eight years.

Five- and seven-year ARMs are particularly good for first-time homebuyers and people who are planning on being in their homes for a short period, says Farrell. The idea: Sell while you still have a fixed rate.

Shop the rate caps, too, says Guttentag. When the loans move into the adjustable phase, the rates usually can change annually. The first-year hike can be capped at anywhere between 2 and 5 percent, he says. Successive years are usually capped at 2 percent.

Make-your-own mortgage: One other option allows homeowners to easily adjust the length of their mortgage by making additional principal payments. Assuming you have no prepayment penalties, every extra dollar of principal you pay shortens your payoff period. For example, you could take out a 30-year mortgage and pay it off several years ahead of time by making one extra payment a year (just tell the lender to apply it to the principal).

The benchmark 30-year fixed-rate mortgage fell 3 basis points to 5.69 percent, according to the national survey of large lenders. A basis point is one-hundredth of 1 percentage point. The mortgages in this week's survey had an average total of 0.32 discount and origination points. One year ago, the mortgage index was 5.81 percent.

The 15-year fixed-rate mortgage fell 3 basis points to 5.12 percent. The one-year adjustable-rate mortgage fell 4 basis points to 4.22 percent.


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