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2008 will repeat as the Year of the Refinance


December 31, 2007
Monday AM

World climate has Ice Ages, and baseball had a Dead Ball Era. Mortgages have their defining epochs, too.

In 2003, when mortgage rates dropped below 5.5 percent for a time, it was the Year of the Refinance. 2004 through 2006 constituted the Era of the Exotic Mortgage, when homebuyers were eager to get any type of loan so they could grab houses before prices were out of reach. 2007 was the Year of Reckoning, when home prices went down and the foreclosure rate went up.

And 2008 will be the Year of the Refinance again, but for different reasons from those that drove the refi boom of 2003. Five years ago, low rates spurred people to refinance. In 2008, homeowners will refi because their adjustable-rate mortgages will hit their reset dates, sending rates skyward. Here are the best mortgage moves to make in 2008:

-- Know when your ARM resets.

It's bad form to get caught by surprise when your adjustable-rate mortgage (ARM) resets. By definition, the rate on an ARM goes through at least one adjustment. Those adjustments are called resets. In recent years, the most common kinds of adjustables have been 3/1 and 5/1 ARMs.

With a 3/1 ARM, the initial, introductory rate lasts three years. Then, on the 37th month, the loan is reset for the first time and the rate is adjusted upward. Typically, the rate is reset every 12 months after that. With a 5/1 ARM, the introductory rate lasts for five years and the first reset is at the 61st month.

To check on the reset date, pull out your copy of the loan contract. On the first two or three pages there should be a section that details when the rate changes and how the new rate is determined. Look for a little headline that says something like, "Change dates."

-- Find out what your ARM's rate would be if it were reset this month.

In the section that discloses the rate's change date, there should be an explanation of how the lender will calculate the new rate. The ARM's rate will be based on an index and a margin. The index is an independent interest rate that is widely known -- the yield on the one-year Treasury note, for example, or the six-month London Interbank Offered Rate, or LIBOR.

The margin is a percentage that's added to the index. Let's say that your index is the one-year LIBOR, and that today it's exactly 5 percent. (It's not; we're just being hypothetical here.) And let's say your margin is 2.25 percent. If your ARM were to reset today, the new rate would be those numbers added together, or 7.25 percent.

The margin will be stated right there in the loan paperwork, although it might not use the word "margin" to describe it. As for the index, you can find many indexes in Bankrate's Rate Watch page or in the business section of a newspaper.

-- Get ready to document your finances.

During the housing boom, many homebuyers eagerly got low-documentation and no-documentation (low-doc and no-doc) mortgages, in which they stated their incomes and assets, but didn't have to provide paperwork to document their personal finances.

Experts believe that most of these borrowers exaggerated their incomes because that was the only way they could get approved for their loans. Had they been required to submit W-2s and tax returns, they would have been turned down for loans because of insufficient income.

In 2007, the rising foreclosure rate was blamed partly on these borrowers. Most of them got ARMs, and they were able to scrape by and make their monthly payments during the introductory rate period. But when the ARMs reset, these borrowers found themselves falling behind. That trend will continue in 2008.

Spurred by self-preservation, lenders have cracked down, and now they're demanding documentation of income and assets from most borrowers.

-- Buying? Bring a down payment.

House prices are falling in many major markets. Your lender doesn't want to give you a big pile of money for a house that's going to be worth less than the loan balance in a few months. So your lender is going to want a cushion. The down payment is that cushion.

During the boom years, it was easy to buy a house with a down payment of 5 percent or 3 percent or even with no down payment at all. Those deals aren't as common anymore.

"I think we're going back to where 10 percent is going to be the standard" for a down payment," says Mitch Ohlbaum, president of Legend Mortgage in Los Angeles.


On the Web:

Bankrate's Rate Watch page:


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Ketchikan, Alaska