Thursday, June 23, 2005

Option ARM Explained

Option ARM loans have many other names including: "Choice Pay," "Personally Tailored Mortgage," the "Mortgage Stretch," "Cash Flow ARM," "Flex Pay," "Advantage ARM," the list goes on and on. Most of these products share the same general features.

Here are the general features that these loans share:

  • "These loans carry an adjustable rate that is tied to some index. The index could be the One year Treasury Bill, the Monthly Treasury Average, the London Interbank Offering Rate (LIBOR), or the COFI (Cost of funds Index etc"
  • " The loans allow multiple payment plans. Typically, the borrower will receive a monthly statement that outlines the current interest rate and loan balance. It will also show four different payments based upon different criteria. (Realty Times June 23rd 2005) "
  • Here are a list of the monthly payment options (from smallest monthly payment to greatest):
  1. The "minimum payment" which is calculated based upon some pre-determined criteria. The minimum payment is usually less than the interest charged for the month, resulting in "negative amortization," or the more politically correct term, "deferred interest." It's very important to understand that making payments with negative amortization results in a rise in loan balance, to cover the interest not paid. (Realty Times June 23rd 2005) "
  2. "Interest only" payment, which is equal to the interest charge for that month. Meaning that the loan balance remains the same.
  3. 30 Year Amortization Payment
  4. 15 Year Amortazion Payment
These option ARMs can be dangerous. They are often diffucult for the average homebuyer to understand. They also carry a high degree of risk if the homeowner generally pays the minimium payment or the Interest Only option. These loans can be useful for workers who have have a variable income (business owners, contractors etc.) . However, these loans are just another way for lenders to keep monthly payments down and get more people into homes.


  1. I know thta the finance industry and the high prices have made these scary mortages more popular.. What i want to know is when the inflection was for the switch from the 30/15 fixed mort that was the wealth builder for our parents generation?.. Maybe it is the lure of easy & quick appreciation. I guessing it will take a nasty decline to show that housing is a durable consumer good and not a basket of gold...

  2. Hi Blogger, Thanks for your interesting blog.I have just came across one site , is about an organization which provides Mortgage loans.

  3. Option ARM loans are only dangerous and scary if one uses them for the wrong reason and does not understand them. Borrowers and article writers need to get educated before knocking Option ARM Loans.

    Most article writers do not understand them and always use examples of individuals using Option ARM Loans for the wrong reason. Those that max out all of their credit cards every few years and suck out all the equity in their home to clear the balances are a prime example of wrong usage. These folks will fail in the long run with any type of loan. The 30% plus forclosure rate that is going on now nationally can be partly attributed to these individuals. Another group with high foreclosure rates are those that took on high LTV loans with high rates just to get into their home or investment property and now want to refinance with an Option ARM Loan to get the payments manageable. In places such as California and Florida values have dropped more and the equity is already running low. The high LTV-high rate buyer is now stuck with a mortgage they cannot handle.

    Who Uses Option ARM Loans? (for the right reasons)
    What is a Negative Amortization Mortgage?

    Bill Eatock