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The mortgage rates dropped once again. I'm refinancing my mortgage once again. It's fantastic it hasn't been even a year because I did it last time.

The rates were low last year because of the anticipation for QE2. Once QE2 began, . Now rates are low once again. Why? I do not know. Maybe the market is expecting a QE3.

This time, instead of following my typical Stepping Down the Ladder script, I'm refinancing my home loan to an ARM with a money out. Before you call me insane for selecting an ARM when rates are lower than ever, bear with me and read to the end.

Stepping Down the Ladder

Stepping Down the Ladder indicates refinancing to a fixed rate a little above the marketplace rate, with adequate credit from the lender to cover the closing cost. Rinse and repeat every time the rates go lower again.

It's a no-lose proposal. You begin gaining from the lower rate on the first day. As the rates go lower, you keep locking in to a lower rate, and never ever pay any closing expenses. Repeat this process until the rates reach the bottom. Because the rate is repaired, your rate will remain at the bottom.

10-Year and 15-Year Fixed Rate Mortgages

When I looked at re-financing this time, I started with the exact same technique. Because I have a 15-year fixed rate mortgage now, I looked at 15-year repaired and 10-year set options.

If I choose another 15-year repaired, the best rate I can get is 3.625% without any closing cost. It's hardly rewarding because my current rate is 3.75%. If I go with a 10-year repaired, I can get 3.25% without any closing cost.

Between these two choices, I would select the 10-year repaired. I have actually had a 15-year set mortgage for a couple of years now. I want to pay it off in 10 years.

5-Year Adjustable Rate Mortgage (ARM)

I normally don't look at ARMs at all, because the entire idea of Stepping Down the Ladder has to do with locking in the most affordable rate for the life of the loan. But given that I was considering a 10-year fixed, I also looked at ARMs.

A 5/1 ARM has a fixed rate for the very first five years. The rate begins adjusting each year after five years. If I'm going to settle in ten years, by the sixth year the staying balance will be small enough that I can pay off if I wish to. If I do not like the rate at that time, I will just pay it off. Meanwhile I will have conserved a fair bit of interest in the very first 5 years.

If I opt for a 5/1 ARM, I can get 2.75% without any closing cost.

Squander Refi

A cash-out refi indicates obtaining more than the present loan balance. Usually you will pay a higher rate and/or higher costs if you refinance with a cash-out. However, if your loan-to-value ratio (LTV) is low enough, there is a ceiling you can go to without incurring a penalty for cash-out.

Why take squander? Because the lending institution credit is related to the loan quantity. Within particular limitations, the greater the loan quantity, the higher the loan provider credit. When the loan provider credit is high enough, it will be able to bump the rate down a notch and still make it a no closing cost loan.

For instance, suppose the loan provider credit for a $100k loan is $1,000 at 2.625% and the overall closing cost is $2,000. It indicates the net closing cost is $1,000 for the 2.625% rate. To make it no expense you will have to go to 2.75%. However, if you increase the loan amount to $200k, the loan provider credit will be $2,000, enough to cover the closing expense. Then the $200k loan will be no charge at 2.625%.

If I increase the loan total up to the optimum enabled, I can get a 5/1 ARM at 2.625% with a net $900 paid to me at closing in addition to the cash-out. I got this offer.

I'm using the very same loan provider I used last time: First Internet Bank of Indiana ("FirstIB"). For the loan I want, FirstIB provides the very best deal amongst a brief list of lenders I looked at: PenFed, National Mortgage Alliance, and AmeriSave.

Won't obtaining more increase the overall interest paid? Yes, if you just pay the minimum. Because the loan has no prepayment penalty, you can pay the cash-out right back in the first month. The only impact of a higher loan amount will be a higher required regular monthly payment amount. Since I'm going to follow a 10-year payoff schedule and the 5/1 ARM utilizes 30-year amortization, the higher needed regular monthly payment is still lower than what I'm going to pay anyway.

For example, to settle $100k in ten years at 3.25%, I will need to pay $977 each month. The needed monthly payment on a $200k 5/1 ARM at 2.625% with a 30-year amortization is $803. If I obtain $200k, repay $100k instantly and keep paying $977 a month, the remaining $100k will still be paid off in 10 years.

Borrow More to Invest?

I considered keeping the cash-out and investing it. After all, it's hard to see how I can't make more than 2.625% a year from my investments. A five-year CD from Melrose Cooperative credit union pays 2.90% a year. If I only pay the required minimum regular monthly payment and put the cash-out and the extra primary payments in a CD, as long as the CD rate is greater, I will come out ahead. The tax on the CD interest and the tax reduction on the mortgage interest will be a wash.

If I put the extra cash in an internationally varied portfolio of stocks and bonds, the return has to be higher - if I do not think that I must just liquidate everything, pay off my mortgage, and put the rest all in CDs. Everybody who is carrying a home mortgage and investing at the very same time is wagering the financial investments will earn more, otherwise they would not invest before the loan is paid off.

But expected returns are simply that - expected. You can wager and anticipate all you desire. The real returns might come greater or lower than your expectation.

Although the idea of making money with other individuals's money is appealing, I'm not yet that comfy with it. I may still do the CD but that's about it. I don't desire to take more risk with this cash.

Rates Have Nowhere to Go But Up?

You may think rates have nowhere to go however up which it's shortsighted to get an ARM now when rates are the most affordable. You might believe five years from now rates of interest will be much greater.

I thought the exact same each time I re-financed in the last 10 years however rates keep boiling down, reaching one historical low after another. I honestly thought it was the last possibility to refinance in March 2010. That was 2 refinances earlier.

The market has actually defied all predictions of higher rates. I will stop saying this will be my last refinance. It will not shock me if rates go in either case: substantially greater or considerably lower. If rates go down once again, I will re-finance again with an ARM and extend my 5-year set rate duration.

When you are within 10 years to settling your home mortgage, re-financing to an ARM can save you money compared to a 10-year fixed rate home loan. The rate is lower. So are the closing costs (for example PenFed charges a 1% origination charge on all fixed rate home loans, however not on ARMs).

Taking a money out and paying it right back will decrease the closing costs. You might even make money for doing the refinance. If you are going to pay off in ten years anyhow, it's totally free money.

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Comments

1. Money Beagle says

June 13, 2011 at 5:50 am

I would re-finance in a heart beat if it were possible, but the equity in our home is well below what the banks would think about in providing us a PMI-free loan w/o escrow (which is what we have today due to the fact that we put 20% down at the time). If I had the ability to re-finance I would absolutely think about an ARM. Even if rates were higher a few years down the roadway, the amount of concept I 'd have the ability to pay for in the mean time would most likely well offset any possible uptick down the road.


2. David says

June 13, 2011 at 7:39 am

Very intriguing analysis. Did you think about the PenFed 5/5 ARM? If so I'm curious about your ideas on that. I've taken a look at that over the last couple of years whenever there was a dip in rates however I constantly ended up choosing the "more secure" repaired rate loan.


3. Harry Sit states

June 13, 2011 at 9:27 am

@David - Yes I considered PenFed's 5/5 ARM. It's currently 3.25% for the very first five years, versus 2.625% on the 5/1 ARM from FirstIB. If I'm going to pay 3.25%, I might also get the 10-year fixed at 3.25% from FirstIB without any closing cost. For my loan, the PenFed 5/5 ARM isn't as good as the offers from FirstIB.


4. Mike says

June 13, 2011 at 10:46 am

Interesting technique. What is the max. LTV ratio you can squander without being punished?


5. Harry Sit states

June 13, 2011 at 10:47 am

@Mike - 60%.


6. TJ says

June 13, 2011 at 6:00 pm

Has teh no closing cost ended? I do not appear to see that alternative ...


7. Harry Sit states

June 13, 2011 at 8:30 pm

@TJ - FirstIB only notes rates with closing expense. The next greater rate will have no closing expense. For instance if the highest rate (least expensive fees) listed is 3.5%, 3.625% will have no closing cost.


8. enonymous states

June 14, 2011 at 11:08 am

good analysis

obviously 60% LTV, and small sufficient balance to be able to benefit the loan with a balloon payment at the end of the 5 years is the essential

the Penfed 5/5 is an incredible offer at 3.25% (if that is stll there) specifically for those with jumbo mortgages. but it is not a good deal for those in TFBs precise scenario ...

I'm in a 15 yr fixed, doing the refi thing yet again (constantly no closing costs), and the 5/5 or 5/1 and even 7/1 ARMs didn't make sense to me, mostly since I hesitate to to make the large balloon payment required to be safe with a 5/1 or 7/1, and due to the fact that the 3.25 5/5 ARM isn't low enough to entice me from my 3.75% 15 year repaired ...


9. ChrisCD says

June 17, 2011 at 7:59 am

Forgive me, however I am uncertain how the no-closing expenses deal works. Each time I have actually looked they have actually wished to cover the expenses into the loan which isn't what I am seeking to do.

In addition, our home worth has actually dropped low enough to make it the alternative seem out of reach.

cd:O)


10. Heidi says

June 18, 2011 at 4:54 pm

Money Beagle - I was in a comparable circumstance. After calling a number of banks (due to the fact that their site calculators consistently concluded that I would not qualify for their mortgage due to my LTV), I found Connexus Credit Union. They let me do an 80/20 to prevent PMI simply last December and I saved over a $1,000 a month on my super jumbo mortgage. I have given that paid off the HELOC and am paying off the 25 year 3/3 ARM over a ten years amortization. You might wish to try providing a call.


11. Madison states

June 22, 2011 at 6:38 am

I keep reducing our 5/5 ARM at penfed with a plan to pay off in 5-10 years. And much like you, I believed whenever it could not go lower. We're at 3.375% on our 5/5, and now obviously, I see rates are even lower once again!

I'll need to take a look at FirstIB, I had not checked out their ARMs recently.


12. TJ states

June 23, 2011 at 9:26 pm

@TFB - I see a choice without any points, but this choice still has $2k in fees (origination charge, appraisal, credit report, flood cert, title insurance, government recording charges)


13. Harry Sit says

June 23, 2011 at 10:59 pm

@TJ - If you want the no charge option, include 0.125% to the greatest rate listed. You need to call them.


14. TJ says

August 7, 2011 at 4:08 pm

@TFB do you have any experience with boxhomeloans. com?

I improved rates for a thirty years than any other websites. I locked it however due to the fact that it was "after hours" (the weekend), they can't confirm up until Monday, if it is lower than what i locked, mine will be the lower rate, if rates go on monday, they will disregard my demand and I need to resubmit a lock request.


15. Harry Sit states

August 7, 2011 at 6:16 pm

@TJ - Sorry, I do not have any experience with Box Home Loans. Maybe check the FatWallet thread?


16. incredibly expense says

February 19, 2012 at 7:27 pm

First IB looks appealing for a 5/1 ARM. However, I live in Maryland and it seems that they do not provide here. Do you understand if this is true and if so, could you recommend other organizations? I am seriously considering the PenFed 5/5 at 3.125% without any closing ... Thanks for an excellent website.


17. Harry Sit states

February 19, 2012 at 8:12 pm

@super costs - Several other readers also reported the very same thing. You can constantly call their 800 number to confirm if it's still the case. If so, choose PenFed then. Maryland has a transfer tax. It'll be very difficult to beat the PenFed rate when you include the transfer tax, which PenFed says it covers.

"5/5 Adjustable Rate Mortgage (ARM) Promotion: We will pay closing costs up to $10,000 per loan, to include: Appraisal fee, Tax Service Fee, CLO Access Fee, Title Fees, Transfer Tax Fees, Credit Report Fee, Flood Cert Fee, Recording Fee, Survey if needed and Work Verification Fee."


18. extremely bill says

March 12, 2012 at 10:55 am

TFB - just wanted to follow up on my publishing. I appled for the PenFed 5/5, which seemed terrific, however their appraisal can be found in method low - about 120k under what our last appraisal was one year back. Therefore, our loan quantity surpasses their limit provided the valuation. I am attempting to appeal however in the meantime, desired to see if you or others had other ideas for a 5/1ARM or interest only item with no closing expenses? (BTW, I talked to FirstIB, and they do not lend to MD) Thanks again.


19. Harry Sit says

March 12, 2012 at 12:55 pm

@super costs - Regrettable the PenFed appraisal was available in low. I hope you will be able to successfully appeal it. Maybe they can ask for another one? The other 2 loan providers on my brief list to check are NMA (nmaloans.com) and AmeriSave (amerisave.com). Also examine the [long] FatWallet thread.

Reply


20. Jc says

July 6, 2012 at 8:52 am

If my lyv is 50% and I refi from a 30 to a 15yr repair, and cash out 50,000 and then repay the 50,000 towards the principal, it seems i will be conserving a huge amount of interest each month. Exists a draw back to this besides a greater monthly payment?
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