PFIN ch05

adjustable-rate mortgage

An adjustable-rate mortgage (ARM) is characterized by an interest rate and monthly payment that can change during the life of the loan, based on changes in a market interest rate. The market interest rate to which the ARM's interest rate is pegged is called the mortgage's index rate.

Convertible ARM

A convertible adjustable-rate mortgage allows a borrower to convert from an adjustable-rate loan to a fixed-rate loan during a prespecified time period, such as the second to fifth year of the loan. This can be particularly advantageous to a borrower if interest rates decline substantially from the rates that existed when the loan was originated.

Among the statements that accurately describe the similarities and differences between mortgage bankers and mortgage brokers are:

•Mortgage bankers lend their own money to borrowers, while mortgage brokers have relationships with a large number of lenders. •Mortgage brokers are often able to reduce the loan-shopping time, hassles, and red tape for their customers. •Many mortgage bankers ultimately sell the mortgages that they create. •Although mortgage brokers often appear to work on behalf of their borrowing customers, they are ultimately paid by the mortgage lender.

fixed-rate mortgage

A fixed-rate mortgage is characterized by a fixed, or constant, interest rate and monthly payment over the life of the loan. The fixed-rate mortgage remains the traditional form of home mortgage, although the length of its term has tended to decrease from the historically popular 30-year term to the increasingly popular, and interest-saving, 10- and 15-year terms.

Interest-only mortgage

A mortgage that allows a borrower to pay only the accrued interest on the mortgage loan for a specified period of time is called an interest-only mortgage. After the expiration of the interest-only period, all subsequent monthly payments must contain both the accrued interest and principal repayment.

VA loan guarantee

A VA loan guarantee is offered by the U.S. Department of Veterans Affairs (VA) to lenders who make qualified loans to eligible veterans of the U.S. Armed Forces and their unmarried surviving spouses. This program does not require lenders or veterans to pay for the guarantee, and in many cases, borrowers are only required to pay the loan's closing costs; even a down payment is not required. However, this can be done only once with a VA loan.

biweekly mortgage

A biweekly mortgage requires 26 payments equal to one-half of a regular monthly payment, paid every two weeks rather than once a month. The advantage of this arrangement is that it reduces the total amount of interest paid over the life of the loan and accelerates the repayment of the mortgage loan's principal—compared to an otherwise identical fixed-rate mortgage.

Graduated-payment mortgage

A graduated-payment mortgage (GPM) allows low initial monthly payments that gradually and constantly increase over a prespecified period of time. At the end of this period, the payments stabilize at the higher level and are repaid over the remaining life of the loan. These loans are designed for borrowers who can't afford large mortgage payments when the loan is originated but are reasonably expected to do better financially in the future.

FHA mortgage insurance

FHA mortgage insurance is provided by the Federal Housing Administration (FHA) to lenders who offer mortgage loans to borrowers who cannot afford the traditional 20% down payment. These loans necessarily have loan-to-value ratios that are greater than 80%. The purpose of this program is to protect lenders who offer loans to homebuyers who have very little money for a down payment. The minimum required down payment for an FHA-insured loan is 3% of the sales price.

Conventional mortgage

The lender of a conventional mortgage assumes all of the risk of loss, including that caused by the borrower's default. To reduce the likelihood of default, lenders typically require a down payment of 20% of the value of the mortgaged property.

Two-step ARM

The two-step ARM provides for two interest rates: a lower rate that is charged for the first five to seven years of the mortgage loan and a higher rate that is charged during the remaining term of the loan.