mortgage

The case against adjustable-rate mortgages

Don TaylorDear Dr. Don,
We bought our home two years ago for $735,000. To finance it, we borrowed $417,000 on a jumbo loan, $138,000 on a home equity loan and made a $180,000 cash down payment. We will have the home equity loan paid in full around June. After that, we'd like to refinance the mortgage. The balance is right around $400,000 now. I'd like to put another $20,000 more down and get a 5/1 interest-only adjustable-rate mortgage. That'll lower my monthly payments, giving me enough extra cash to pay off the mortgage in five years. Is this a good move?

Thanks,
-- Shelly

Dear Shelly,
Bankrate readers may feel a little envious over your ability to finance your home. After two years, you're close to paying off a $138,000 home equity loan, and you also have an extra $20,000 to pay down your first mortgage? That's impressive.

Your original first mortgage was within conforming loan limits at the time for a conventional mortgage, so I'm not sure why you were placed in a jumbo, or nonconforming, loan. A nonconforming loan would have a higher interest rate. You didn't tell me what your current interest rates are, so it's impossible to say how much you'd save by refinancing, especially with your plans to aggressively pay down the loan.

If your goal is to pay off the refinanced mortgage over the next five years, then you have no real need for an interest-only loan. With rates so low, I also don't see the need for a 5/1 adjustable-rate mortgage. You're taking on a fair amount of risk that interest rates head higher, but not getting a big discount on the mortgage rate for taking on that risk.

As I write this, the Bankrate national average for a 15-year fixed-rate mortgage is 2.89 percent and a 5/1 ARM is 2.74 percent. You're risking a lot for a 0.15 percent differential. The pretax mortgage interest differential on $400,000 over one year is $600. I'd be willing to pay that difference to have that low rate locked in for the next five years. Remember that the difference in interest expense would decline as you paid down the loan.

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