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FINANCING YOUR INVESTMENT

The 5/5 jumbo adjustable-rate mortgage: Is it safer than the traditional 5/1 ARM?

Known as the jumbo 5/5 ARM, this loan has a fixed interest rate for the first five years before it resets to a new rate that the borrower ends up with for another five years. The process in most cases repeats throughout the life of the loan.
 
Lenders say this mortgage provides borrowers with more certainty because the required monthly payments don't change as often as they do on other ARMs. Borrowers, therefore, are less prone to interest-rate swings. Many lenders are also touting 5/5 ARMs as a hedge against rising mortgage rates.
But the opposite situation could also play out, with borrowers locking in a rate for five years just before rates start to drop. Critics say this mortgage only works in borrowers' favor if they happen to time the market right.
 
To sweeten the pot, some banks are offering similar—and in some cases identical—starting rates on jumbo 5/5s and 5/1s, where the rate is fixed for the first five years before adjusting each year after that. At On Q Financial the starting rates on the 5/5 and 5/1 jumbo’s are currently 3% while the 30 year fixed rate jumbo is 4.75%. The minimum loan amount is $400,000. The payment at 3% is $1,686.42 at 4.75% the payment is $2,085.59. A monthly savings of $399.17. Over the first five years this is a savings of $23,950.20. Make it an $800,000 loan amount and the monthly savings doubles to $800.35 per month and $48,021 in the first five years and you can see why larger loan amounts can benefit from these type products.
 
Lenders' incentives seem to be working. 5/5 jumbo originations increased during 2013 compared with the same period a year earlier.
 
To boost demand further, some lenders are rolling out so-called rate-reset protection. The feature allows borrowers who are concerned that rates will be significantly higher by the time their reset arrives to adjust their rate earlier than scheduled. But they'll pay for the option.
 
Borrowers who are considering signing up for a 5/5 jumbo should compare the cap structures that each lender offers. One of the most favorable is a 2/2/5 structure, where the maximum amount the rate can change in the first reset (after the first five years) is two percentage points; the most the rate can change at each reset thereafter would also be two percentage points; and the greatest amount that the loan's initial rate can ever increase by would be five percentage points. With this structure, a 5/5 jumbo with an initial rate of 3% could only rise to a maximum of 5% five years from now and its rate could never be higher than 8%.
 
Other issues to consider:
 
• Lender's margin. When comparing 5/5 jumbos, ask lenders what index the loan's rate is pegged to (such as a specific Treasury) and the margin that the lender tacks on.
 
Article compliments of:
Drew Wright, Mortgage Loan Officer
NMLS #: 589370 / NC #: I-153695
NMLS # 5654
6475 N Croatan Hwy Kitty Hawk NC 27949
Phone: 252.207.0293 Cell: 252.256.2018 Direct Fax: 252.256.7865