A few days ago, I wrote about the assumability feature for FHA loans. Another program feature that has not been discussed much over the past few years is the adjustable rate mortgage. With rates near all-time lows, it may not make sense for most borrowers to choose an ARM. However, if you plan on staying in your home for a short time or you need the lower rate to assist you in qualifying, then an ARM may be an option.
The subprime-loan debacle gave ARM products a bad name — primarily those that featured the "crazy first year adjustment." The first-year cap on most subprime adjustable loans was as high as 5-6%. FHA loans, on the other hand, have a more reasonable annual maximum adjustment (the cap) of 1-2%.
FHA offers a standard 1-year ARM and four "hybrid" ARM products. Hybrid ARMs offer an initial interest rate that is constant for the first three, five, seven, or 10 years. After the initial period, the interest rate will adjust annually. Below are the different interest rate cap structures for the various ARM products:
• The 1-year ARM and 3-year hybrid ARM have annual caps of one percentage point, and life-of-the-loan caps of five percentage points. (Example: If your initial interest rate were 4.00%, the highest possible interest rate would be 9.00%)
• The 5-, 7-, and 10-year hybrid ARMs have annual caps of two percentage points, and life-of-the-loan caps of six percentage points.
Acceptable index options on FHA-insured ARM loan transactions are 1) the Constant Maturity Treasury (CMT) index (weekly average yield of U.S. Treasury securities, adjusted to a constant maturity of one year); or 2) the 1-year London Interbank Offered Rate (LIBOR).
As rates continue to move off their historical lows, we must diligently review all loan possibilities, including ARMs, as viable financial avenues for our customers.