How you can adjust to the new adjustable-rate mortgages

By , Staff writer of The Christian Science Monitor

Any hope on the part of home buyers that adjustable-rate mortages would go away one day, to be replaced by the predictable old fixed-rate version, should probably be put aside forever.

Recent data compiled by the Federal Home Loan Mortgage Corporation (''Freddie Mac''), the Federal Home Loan Bank Board, Realtors, bankers, and savings-and-loan officials confirm the adjustable-rate mortgage, or ARM, is here to stay. In the first six months of last year, the Freddie Mac survey found, ARMs made up some 44 percent of home mortgage financing, up from almost zero three years before. Informal studies later in the year found this figure still growing.

''I think it will be up to 60 or 70 percent by the end of this year,'' said James Jorgensen, editor of a Cupertino, Calif.-based newsletter on savings, taxes, and investing. ''The public has finally accepted that interest rates aren't going to come down, so they have accepted this (the ARM) as the way to go if they want to buy a home.

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''And the S&Ls are determined not to get caught in a vise again.''

The ''vise'' is the phenomenon of low-interest mortgages that pay less income to banks and S&Ls than they need to in order to offset the high cost of new money. The profit squeeze caused by this has permanently closed doors on more than a few financial institutions.

The vise has also squeezed out many first-time home buyers who could not afford the high monthly payments that go with a 131/2 percent fixed mortgage. They could, however, afford the lower payments that accompany a loan that is a couple of points lower.

While it is still possible to get a fixed-rate mortgage, you'll have to pay more for it, but the expense may be worthwhile, depending on your situation and your view of the economy. If you are planning to stay in the home for several years and think interest rates are likely to go up again, try to get a fixed rate, if you can afford it.

On the other hand, there can be many reasons that an adjustable mortgage makes perfectly good sense:

Some people do not plan to stay in the new home very long. A rising young corporate manager, for instance, may have just a two- or three-year assignment in a city before being moved again; or a family with a knack for renovating may know that with some improvements a house can be resold a short time later at a handsome profit; or a family that expects to grow shortly may still want to take advantage of a good buy now.

Then, of course, there are thousands of buyers whose income simply does not qualify them for higher payments that go with a fixed-rate mortgage. According to Freddie Mac, monthly principal and interest payments on a $55,000 mortgage would be $630 for a 13.5 percent fixed-rate, compared with $576 for an ARM on which payments were fixed for the first three years; payments would be $534 for an ARM with only the first year guaranteed. Property taxes and insurance are not included.

If one of these reasons fits you, go adjustable. But there are some pitfalls to be aware of.

One way lenders have made the ARM more attractive is to put a ''cap,'' or limit, on how much the rate can be increased. This cap can be a yearly limit, a lifetime limit, or both. You may start out, for example, at 11 percent, but the rate could increase gradually by as much as 41/2 percentage points in 21/2 years.

The first thing to check is whether there is a cap. Many borrowers don't ask about this and end up with a mortgage on which the payments could double, if rates go back to the high-teen level of a couple of years ago.

Even if you do get a cap on your mortgage, work out a worst-case scenario before signing on. If today's 11 percent loan did become a 151/2 percent loan in a couple of years, what would the monthly payments be? Depending on the size of the mortgage, the payments might be $200 to $300 higher. Could you afford that?

You should also find out if the mortgage contains something called a ''negative amortization clause.'' This is being used by lenders to offset another clause that limits the size of any adjustment to a percentage of the current monthly payment. This has sometimes meant that lenders could not always recover the full effect of rising interest rates.

The negative amortization clause is meant to counteract this by adding any unrecovered interest to the principal, which means that over the life of the loan the amount of unpaid principal would actually grow and you would be paying interest on interest.

The easiest way to avoid this is to shop around carefully and find a lender who does not have this clause. This is, of course, another way ARMs have changed the home-lending picture: It is now more important than ever to check as many lenders as you can, including several banks, S&Ls, and private mortgage companies. The procedure will take time, perhaps lots of time, but it could save thousands of dollars every year.

After doing all this arithmetic, you may find that what looks like a more expensive fixed-rate mortgage has the potential to save money in the long run, if you believe, as do some economists, that interest rates will climb back toward the mid-teens in the next two or three years.

If you would like a question considered for publication in this column, please send it to Moneywise, The Christian Science Monitor, One Norway Street, Boston, Mass. 02115. No personal replies can be given by mail or phone. References to investments are not an endorsement or recommendation by this newspaper.

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