Every Dollar Matters

About Mortgages

Getting a good interest Rate on your mortgage

Your ability to get a good interest rate depends upon your credit rating. If you are not sure if you have good credit you can get a free report from the three main credit reporting services. https://www.annualcreditreport.com/cra/index.jsp. These reports are free so you are under no obligation to purchase any additional services. 

Mortgage Calculator

The following site has a decent mortgage calculator. http://www.bankrate.com/fox/mortgage-calculator.asp

Types of Mortgages

Fixed Rate

A fixed rate mortgage is the way to go. Typically a fixed rate mortgage is written for 15 or 30 years. You can get a mortgage written for just about any periodicity under 30 years. Of course your credit and ability to pay will factor into what the lender is willing to write the note for. Make sure you get a mortgage that allows you to pre-pay the interest without penalty. Trying to get a mortgage for more than 30 years is just plain crazy. 

For example a $200,000 mortgage at 6% will cost you the following:

15 year - $1687 a month

30 year - $1199 a month

You can figure on paying 40% more on your monthly payment for a 15 year mortgage. If you have the financial means to pay off a mortgage in 15 years you should. You will lose some of the tax break, but not much. For example, a our $200,000 mortgage at 6% the differential in interest in the first full year of the mortgage is about $250. Not a big deal at all in terms of savings on your taxes. And, this gap gets smaller each year. 

A disadvantage of a 15 year mortgage is it requires more of your monthly income. This can be stressful during periods of unemployment, or during times when you could use the extra cash flow. Since most of the interest in a mortgage is paid up front their is a way you can pay off a 30 year mortgage like it was a 15 year mortgage.

Consider the following amortization schedule.

Balance Interest Principal New Balance Pmt
200,000.00 1,000.00 199.10> $199,800.90 1
199,800.90 999.00 200.10 $199,600.80 2
199,600.80 998.00 201.10 $199,399.71 3

If in addition to making your monthly payment you sent them a check for the principle as well this would be the same as making an extra payment! So, for your first payment, if you sent in the standard $1199 payment along with an additional $199.10  you would now only have 358 payments to go. As you can see the principle amount increases with each payment so on your 112th payment you would need to send in an additional $346.34 along with your $1199 to make two payments.

Balance Interest Principal New Balance Pmt#
170,551.61 852.76 346.34 $170,205.27 112

A key advantage of this technique is that it allows you a better tax advantage by being able to deduct the interest on the 30 year note, but to pay down the note in a shorter period of time. You do need to be disciplined enough to consistently make these extra payments. 

Also make sure that you are clear that the extra money you are sending in is to be applied directly to the principle!!!

If you are just not discipline to pay off a 30 year mortgage using this method then you should consider the many programs out there that have you pay your mortgage every two weeks instead of once a month. In doing this you will be making 13 payment a year instead of 12. This method takes about 8 years off of a 30 year mortgage. It also can cost you money to sign up for such a program.

ARM

Adjustable Rate Mortgages (ARM) are just what the name implies, adjustable. They have become popular as you can generally get a rate that is initially lower than the fixed rate. The rate of an ARM is linked to an economic index that can go up. Many of you may not be old enough to remember that in the late 70's interest rates soared into the double digits. 

A change from 6% to 6.5% on the example mortgage we have been using is going to add $65.00 to your month payment. My point is that it is really easy to get in over your head with an ARM. Many people during the recent housing boom of the past 5 years bought more expensive houses, and were able to do so because they financed the home with ARM's that were up to 2% less than a fixed rate mortgage. Lets look at a mini case study here.

Instead of buying that $200,000 home on a 30 year fixed at 6%, I figure out that I can get $250,000 on an ARM at 4% for roughly the same monthly payment ($1193). Now lets say five years down the road the markets take a turn and my arm that was guaranteed for 3 years at 4% is now costing me 6%. My payment is now $1498 a month, $305 dollars more than I was paying. I need to get money from somewhere else in my budget. Further, there are no guarantees that the rates will not go up even further. 

An ARM is just not a good idea.

Balloon or INTEREST ONLY Mortgages

I am not even going to talk about these except to say, stay away from them. You goal is to buy a home so you that you can be free and clear of this sizeable chunk of your monthly expenses when you retire. These mortgage types are not going to help you do this. 

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