Some Teasers Bait the Hook to Catch the Gullible and Desperate

As standard operating procedure, lenders advertise enticing ARM rates (or monthly payments) to make their phones ring. In response to such an ad for a 2.95 percent ARM, I called the lender. As it turned out, the loan did guarantee that I would pay the 2.95 percent interest rate during the first year. However, the mortgage was attached to the following "gotchas."

  • Negative amortization: If the underlying index for the loan went up during that first year, the extra amounts owed would add to the outstanding principal balance.
  • Prepayment penalty: If I paid off the loan within the first three years, I would pay a 3, 2, or 1 percent penalty for years one, two, or three, respectively.
  • Qualifying rate: To calculate the qualifying ratios, the lender would compute P&I payments with a 5.7 percent interest rate.
  • Lifetime cap: Over the life of the loan, the mortgage rate could increase (theoretically) to as high as 13 percent.
  • Loan size: Minimum loan amount recommended was $400,000.
  • Loan rep knowledge: I had to push hard to extract the details of this loan product from the loan rep. Either he did not really understand the loan, or he didn't want me to understand it. He did, though, try to switch my interest to several other products the company was offering that "might better meet my needs."

Most likely, in this case, the lender did not want to make this loan except to a few specialized niche borrowers. The lender used it as a baitand-switch come-on.

Sometimes, though, lenders do want to hook borrowers with teaser-baited ARMs—especially those borrowers who lack understanding, or who desperately want to finance a property with a seemingly affordable loan. It's in those instances when you must inquire closely to learn all features of the product (as Mortgage Secrets shows you throughout the remainder of this chapter). When some lender offers loan rates, terms, or monthly payments that look too good to be true, ferret out the gotchas. You'll probably find some. But not always.

Some Teaser Rates or Payments Do Make Good Loans Recall the Klars from Chapter 3. Their low rate ARM provided a near certain benefit-cost advantage. Why do some lenders overwhelm their competitors with an unbeatable interest rate and/or product? Here are several reasons:

  • Rebalance its portfolio. Lenders may want to shift their loan portfolios more to ARMs. To rebalance their allocations, these lenders may create some exceptional ARM offerings.
  • Achieve growth targets. Lenders set growth targets that may require the sacrifice of profit to sales (dollar volume originations).
  • Gain market share. Likewise, if a lender wants to quickly grow its market share (or stop a slide), it may market attractive ARM products.
  • Make deals. To win friends and influence referrals, lenders may cut especially good deals for customers of favored Realtors or home builders.
  • Change their image. Through aggressive offerings, lenders well-known for fixed-rate products may decide to create attention for their ARMs.

Mortgage lenders sell into a competitive market. To attract notice they sometimes place one or more of their loan products "on sale." Shop thoroughly, question closely, and your efforts may turn up an ARM bargain.

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