Hybrid ARM loans have plenty of myths and misconceptions about the hybrid loan that have been perpetuated both by well-meaning but misled individuals and by intentionally deceiving parties that stand to profit by having fewer borrowers choose any kind of adjustable-rate mortgage. This article will address two of the four most common myths about ARM loans in general, but primarily about the VA hybrid ARM program.
1. My Hybrid ARM Loan Payment Will Go Up When My Rate Starts to Go Up.
While this certainly can happen, and even happens with some frequency, your monthly payment can actually stay lower than it would have been on a fixed-rate mortgage even if the rate goes up. Considering that as of the writing of this article, a common interest rate on a fixed-rate mortgage is 4.5%, and the most common starting rate on a VA hybrid ARM is 2.25% for the first three years, the hybrid ARM rate would have to literally double before it got as high as the fixed-rate mortgage.
The VA hybrid ARM program limits the amount a rate can adjust to one percentage point each year. In other words, after three years of 2.25% (which already saves you a bundle of money), the highest it could jump to is 3.25%, still a solid 1.25% lower than what you’d be paying on a fixed-rate. Even if it jumps a full percentage point at the end of the three years, and another full percentage point the year after that (pretty unlikely scenario, by the way), you would still be going into your fifth year on the mortgage with a rate of 4.25%, still a quarter of a point lower than where you would be on the fixed-rate mortgage. Remember that more interest is paid at the beginning of the loan that at any other point, and your monthly payment will most likely stay lower than your fixed-rate payment.
2. My Hybrid ARM Rate Will Definitely Go Up.
This is not true. While rates can go up, rates also go down as well. This is shown throughout history to be the case. The VA loan program calculates its interest rates based on the CMT index, which is calculated on an annual basis. From 2001-2011, the CMT index went down for seven out of the ten years, and continued to go down in subsequent years. As of the writing of this article, the CMT index is currently at .1%, which is incredibly low. In all of U.S. history, only once has the index increased a full percentage point for more than two years in a row. So it is certainly possible that your interest rate will go up, but it is also very possible that it will go down.
The VA has put numerous protections in place on the hybrid ARM program to keep it a good deal for eligible VA borrowers. Even if your rate does go up, it cannot go up more than 1% each year, and it is extremely unlikely (as in it has happened once in the history of the United States) that the rate will go up a full percentage point for two years or more. The VA also places a limit on hybrid ARM rates, so that they can never be more than five percentage points higher than what they started at.
3. I Should Use a Fixed Rate With Shorter Term If I Want to Pay Off My Home Faster.
Again, this is not true. The reason is simple. Your ability to pay off your home faster than the minimum is based on basically two things: the minimum payment, and your income. Since your income is probably independent of the choice between a fixed-rate or a hybrid ARM, the only thing that changes is the minimum payment. Your minimum monthly payment is primarily principal+interest. If you are at a lower interest rate, your minimum payment will be lower as well.
In the above example, where the fixed-rate is at 4.5% and the hybrid ARM is at 2.25% for the first three years, the hybrid ARM will have a significantly lower minimum payment than the fixed. What does that allow you to do? Pay more than the minimum payment! Just by paying the amount you would have paid (or have been paying) on the 4.5% fixed-rate, you can pay off more principal faster on a hybrid ARM. Plus, since it is extremely unlikely that interest rates will go up consistently for seven years in a row, you could be 10 years into the loan before your hybrid ARM rate gets as high as the fixed-rate was at the beginning! By then, if you’ve paying what you would have paid on a 4.5% fixed-rate, you may only have 5 or 10 years worth of payments left, and far less principal to be charged interest on than you would have otherwise.
4. The 30-Year Fixed Rate is a Better & Safer Loan
This is a myth that is present mostly here in the United States. It is no coincidence that the U.S. was also hit the hardest by the housing crisis. This myth is devastating because of the simple fact that nobody is ever really paying off the same loan over 30 years – by far (like 99%), most people who purchase homes get a new loan every 4-6 years. This is why the VA offers both 3-year and 5-year hybrid ARMs, whose rates remain fixed at a much lower rate during the initial period – until about the time most borrowers are going to be refinancing or selling anyway. But even for those very few who keep the same loan beyond 6 years, the VA has built in protections to make sure that those borrowers aren’t hit too hard by changing interest rates.
First, as mentioned above, the VA uses the CMT index, which is a fairly gentle and non-volatile index, to calculate its rates. The CMT index prevents volatility by averaging activity over 12 months to calculate a yearly average. This yearly average is what is used as the index on VA hybrid ARM loans. Second, the VA places an annual cap that prevents interest rates from rising by more than one percentage point each year. Also mentioned above, this limitation means that even if interest rates are skyrocketing, it could still take years to get as high or exceed the interest rate you’d be dealing with on a fixed-rate mortgage. Third, the VA loan program puts a ceiling on how high the interest rate can ever go. If your hybrid ARM started at 2.1% after the initial fixed period, it could never go higher than 7.1% no matter what interest rates are doing. This is an extremely valuable protection not only for the money it saves in case interest rates do skyrocket and stay there for an extended period of time, but also so you can forecast and plan for the worst-case scenario. You can know with 100% surety what you are risking with a hybrid ARM.
VA Hybrid Loan Tips To Think About
As a tip on how valuable a lower interest rate is, remember that interest is nothing but poison. Paying interest is exactly like throwing money out the window or lighting it on fire rather than using it. Any interest you pay is lost money that you worked hard for and earned and got nothing from it. There are two types of people in this world – people who pay interest and people who collect it – and guess which group is wealthier. Obviously, creditors have a right to charge interest, since that’s how they get paid for their services. Creditors allow you to have something now, instead of having to save for it and get it later. For that privilege, they charge interest, and that’s how they make money, and there’s nothing unethical or wrong about that. For you the borrower, however, you need to remember that every dime you pay in interest is a dime more than you had to pay. Do everything in your power to only pay interest when there is no avoiding it, and to choose the option that brings less interest, and you’ll be shocked at how much
Still not convinced? Here is another good article about the VA Hybrid Loan Pros and Cons that may help you decide the best option for your situation. Think of what you can do with all the saved money from a lower interest rate. Imagine taking the money that you would have been spending on a higher monthly payment with a fixed-rate mortgage and paying off your credit card debt. Credit cards can have interest rates in the 20% area – especially for delinquent amounts. Taking money saved with a lower mortgage payment and using it to pay off credit cards can save you a ton of money in both the short-run and the long-run.money you save.