FHA-backed ARMs can save homebuyers money

December 01, 1991|By David Enna | David Enna,Knight-Ridder News Service

With fixed-rate mortgages hovering at 9 percent or less, why would anyone consider an adjustable-rate mortgage?

One good reason would be to save money.

Consider an FHA-backed ARM that has attractive terms. Right now, it has a starting rate of about 6 1/2 percent, and 1-5 percentage point rate cap, meaning that the interest rate can increase (or decrease) 1 percentage point a year, and a maximum of 5 percentage points.

At the current starting rate, this mortgage could not increase to more than 7 1/2 percent the second year, 8 1/2 percent the third year, and so on to a maximum of 11 1/2 percent in the sixth year or beyond.

It generally has a "margin" of 2 percentage points over the one-year Treasury index.

The margin is important, because it determines how the rate will be adjusted in the future. The Treasury index is currently at 5.0, meaning that this ARM, if adjusted today, would carry a rate of 7.0 percent.

Most conventional ARMs have a margin of 2 3/4 points over the index.

So, which is better -- this ARM or a standard, 30-year FHA-backed mortgage, which now has an interest rate of about 9 percent (with zero discount points)?

Look at an $80,000 mortgage, assuming that the market interest rate will increase to 10 1/2 percent in 1994 and stabilize there.

In this scenario, the ARM would save the homeowner $3,036 over the first three years. After that, the homeowner begins losing.

In total, over the six years, the ARM would save the homeowner $576. In the seventh year and beyond, if interest rates hold at 10 1/2

percent, the homeowner loses.

Here is the key question: How long will you stay in this house? If you know you will be moving in five years or less, the ARM is the way to go.

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