Beware of Option-ARM mortgages. They are heavily promoted, but should rarely be used. I recently received an email that perfectly illustrates how overly zealous mortgage brokers push these dangerous products. Knowing their deceitful tactics will protect you.
'Carrie' is from Washington, D.C. She sent me an email because she recognized the dangers of Option-ARMs after reading my recent articles at http://www.guardingyourwealth.com. She and her husband have one and are going to refinance before there rate goes up even further.
Carrie and her husband have a home worth $900,000 and owe $340,000 on it. Their credit score is very high and they'd like to get rid of their 5.9% Option-ARM and refinance with a fixed mortgage. Her problems started when she contacted a mortgage broker...
Carrie explains: "A zealous mortgage broker tried to get us to refinance into another Option-ARM. My whole purpose in wanting to refinance was to ditch this loan and get into a 30 yr. fixed mortgage before rates really go up, which I assume is a reasonable assumption."
I want to show Mr. Zealous Broker's reasons because I have heard other readers all across the country tell me the same thing. Carrie continued, "Mr. Zealous Broker's rationale on why we should refinance into another Option-ARM is as follows:
1. Since we have so much equity in our home, we should take an additional cash-out of $100,000 and "invest" that money for the long term.
2. He asserts that we have made a mistake in paying the fully amortized principal and interest option payment each month. Instead, he says we should only make the minimum payment despite the fact that this results in negative amortization. [Negative amortization means the amount owed increases each month!] He says that making the minimum payment each month and taking out the $100,000 to invest is a smart move because we will 'create wealth'.
3. It is unlikely the value of our house will decline in the future since the Washington, DC metro area housing market has always been fairly stable and strong.
4. Negative amortization is not a problem since we will never pay the house off anyway. The best thing to do is to refinance every 3 years with an Option-ARM at a lower rate. Our decent financial situation allows us to be able to do this.
5. It is not problematic if the interest rates on the Option-ARM rise since the rate on our investments will most likely rise as well. "
Carrie concludes, "I am trying to keep an open mind but I can't help but wonder if a) this guy gets paid more on Option-ARMs, and b) it services his commission to have us refinance our Option-ARM every few years. Also, despite the potential to "create wealth" by investing the cash, I do not wish to have a huge mortgage debt as we approach retirement in 15 - 20 years.
Am I missing something? I am no financial genius but something doesn't seem right. I would appreciate your insight since this broker has confused me to the point of needing some financial therapy!"
I responded...
"Well the doctor is in! First, you are absolutely correct in your take on the situation. This investment philosophy is being heavily promoted by some 'wealth management' strategists because of the commissions it generates. The only thing that surprises me is that Mr. Zealous was only suggesting you take out $100k (why not more?) and that he isn't suggesting you put it into an equity-indexed annuity or equity-indexed life insurance!
It is a waste of money to refinance your mortgage every three years. It is also untrue that if mortgage rates increase that the amount on your investments will go up as well! Has he ever heard of a recession?
Run from this advisor and anyone else recommending you leverage your home for the potential of a greater return on investments. You are earning 5.9% on the equity in your home right now with zero risk. Refinance into a fixed mortgage or a 10/1 ARM."
Carrie took my advice and is now working with a reputable mortgage broker. Here's the point--when dealing with your finances and your gut tells you something is wrong, listen!
Have a financial question? Send me an email and I'll personally respond, free of charge. Go to http://www.guardingyourwealth.com and click on 'Ask Jeff'.
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In addition to being a nationally syndicated columnist and Certified Financial Planning Practitioner, Mr. Voudrie provides personal, private money management services to clients nationwide.
About the Author
Martin Rogers is a contributing writer to http://www.personal-bankruptcy-avoidance.com and is currently writing some special articles to guide business on how to manage debt and avoid bankruptcy. For Free information on the Los Angeles Bankruptcy Information, call toll-free 1-877-850-3328
