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Is it Time to Refinance Your Mortgage?

Mortgage Rates are Still Low
The Housing Bubble Has Burst
Which is Better?

Is now a good time to refinance a variable rate mortgage? While interest rates have risen somewhat, they are still at relatively low levels.

The Federal Reserve has been steadily raising the Fed funds rate for over a year. It generally takes months and even up to a year for these increases to start showing themselves in the interest rates consumers will be charged.

At the time this was written (February 2006), the yield curve was flat to inverted. This means that long term rates are lower than or equal to short term rates. I am not an interest rate guru, but many people who are fear this points to an upcoming recession.

One thing for sure is that mortgage rates will gradually rise once the Federal Reserve’s actions work their way through the financial system. This does not bode well for those who took out short term Adjustable Rate Mortgages (ARM). They will be the first to see their mortgage rates kick up.

As for borrowers with 3, 5 or 7 year ARM’s, they might have some time before rates are adjusted upwards, but they might see much larger increases than they planned on.

The main problem has been caused by the run up of housing prices, especially on the coasts. In order to afford these houses, many people jumped at the lowest possible mortgage payment, which would be either a 1 year ARM or even an interest only loan.

This is the time to read the terms of your mortgage. Will you be able to afford a rate increase when the time for the first adjustment comes around? How big of an adjustment is allowed?

If you are planning to stay in your house and are worried about the effect of rising rates on your ARM, you should get out a calculator and figure out if you would come out ahead with a fixed rate mortgage available at today’s rates. Also you have to make the decision as to whether or not you can stay in the house when your ARM rate goes up.

Many experts have been predicting that the “housing bubble” will burst. I don’t think it would do so nationwide, but there might be locations that experience falling prices. This is, of course, the worst of all worlds, since you now have a house you can’t afford because of rising interest rates and it’s worth less than you paid for it.

If the bubble does burst, it likely will be caused by lots of strapped homeowners heading for the exits at once.

It pays to be prudent, especially with what is probably your biggest asset. If you have any doubts about your ability to keep your home if rates rise, I believe a wise move would be to refinance to lock in a low fixed rate while you still can.

Is It Time to Refinance - August 2006 Update

Since February, when I originally wrote this article, interest rate hikes are starting to harm both homeowners and the housing market in general.

According to a recent Wall Street Journal Article, Home Owners Start to Feel the Pain of Rising Rates , rising interest rates have begun to cool off the market, causing an increase in the supply of houses which, in turn, is leading to a decline in prices.

Apparently this is not a nationwide phenomenon and is mostly confined to certain, formally hot, markets. Nationwide the picture is not as bleak, with certain areas still enjoying strong home sales.

But according to the Journal, the bursting of the housing market bubble is being accelerated by strapped homeowners who took out short term ARM's or used other mortgage gimmicks to buy more house then they could really afford. They are now seeing their mortgage payments rise sharply along with the higher rates, forcing them into a severe financial crisis.

As a result, many are selling their houses - in too many cases, for less than they owe - further depressing the market. Single family home sales are down 20% in Florida, 15% in California, 19% in Washington, D.C. and 25% in the Phoenix area, according to the Journal's survey in another article, "Hot Homes Get Cold."

Borrowers using fancy financing have seen their mortgage balances actually rise and their ARM interest rates spike as much as 6%. Mortgage delinquencies are rising as a result.

Fixed rate mortgages are still relative low, in the area of 6.38%. Lenders are trying to steer people facing rate hikes into a refinance of these mortgages, hoping to avoid foreclosure.

As can be expected in times like this, borrowers complain that they didn't understand the terms of their mortgage and predatory lending lawsuits are being filed.

If you don't have a simple fixed mortgage, you should know what you obligated yourself to do. If you haven't already done so, read your mortgage documents thoroughly. If you don't understand them have the lender tell you what to expect in the future.

If you are unable to afford any interest rate spikes, now is the time to do something about it, like refinance into a fixed rate mortgage, before those rates start to go higher, which is very likely.

Is It Time to Refinance - January 2007 Update

Banks across the country are taking aggressive action to handle a growing tide of foreclosures, reported to be at a five year high.

The problem arises from a lot of the more esoteric mortgage packages homeowners signed onto in an attempt to afford housing in a runaway market.

The housing market boom has run its course and prices have started to decline in many parts of the country. Homeowners, especially those that used "Limited Payment Option" mortgages with a variable rate are among the hardest hit. Their payments were not enough to cover principal and interest, especially when their interest rate was adjusted. But they continued to make the same payment. The shortfall was added to principal.

The problem is that lenders will only allow you to add up to a certain amount the the principal - generally 30% - and then you must pay the piper. Thousands of homeowners now have negative equity in their homes and cannot afford the revised payments. They are either trying to dump their homes in a depressed market or simply walking away.

Mortgage lenders really don't want to own these houses and are taking steps to try to avoid foreclosing. According to MoneyNews.com, Bank of America is allowing no cost mortgage refinance to strapped borrowers. Bank of America and other lenders are also forgiving the debt of homeowners who sell at a loss - a so-called short sale. [Beware, the forgiven debt is considered taxable income by the IRS.]

If you have an ARM that will adjust to a rate you can't afford, there is still time to refinance. Mortgage rates are still relatively low, but I don't think they will remain that way much longer.

Is It Time to Refinance - May 2007 Update

Things have not gotten any better. The housing market is the worst it has been in at least ten years. Some of the biggest sub-prime lenders have gone bankrupt and are under criminal investigation. The entire banking system is feeling the stress and the Federal Reserve is keeping interest rates low in an attempt to head off larger problems.

The sub-prime lending market is for all intents gone. But banks realize they have a problem on their hands and want to avoid owning a glut of foreclosed houses.

Some of the biggest banks have put together a $6 billion pool to address the problem. If you have a problem now or foresee one arising in the future call your lender. Most are very willing at this time to put stressed homeowners into low interest fixed rate mortgages.

Is It Time to Refinance - January 2008 Update

The financial system has been hard hit by the subprime mortgage mess, so interest rates will remain low for the time being.

Although it looks like banks will not allow certain ARM's to reset upward for the next five years, there is really no reason not to lock into a low rate fixed mortgage if you have the credit rating to qualify.