In many respects, finding the 30-year mortgage you’ll use to pay off your construction loan on your log home is much easier than finding the construction loan itself. Many more lenders do permanent financing, but there is still a significant percentage that won’t do country property and/or log construction.
Obviously, since more lenders offer permanent financing, you’ll be able to do a better job shopping for the best rates and fees. Rates, terms, and fees are more important when you’re doing your permanent mortgage shopping, because you’re likely to have to live with them for years rather than the 24-month max term of the construction loan.
Caveat: If you signed up for a Construction-to-Permanent loan with your construction lender, stop reading now, because you won’t be doing any more money shopping. On the other hand, if you’re at the point of considering taking a construction loan with a lender who wants you to do a Construction-to-Perm, read on!
So where do you find these lenders eager to do business with you? Before you go mortgage hunting, make sure you’ve figured out what you need. You need to understand the long-term ramifications of the various mortgage scenarios you’ll be evaluating.
Most important, you need to get an overview of your life over the next five to 10 years. Try to envision how long you’ll keep the home. Do you intend living there for five or six years, then moving someplace warmer? Will it be a summer home until your kids are in their late teens and no longer want to spend their vacations away from their friends? Or will you be using it as a vacation home for a number of years, then selling your current primary residence and retiring there?
If there’s any probability you may want to sell your log home in the next five or six years, you’ll definitely need to evaluate a five-year or seven-year fixed, interest only. These loans are killers when they convert to their regular adjustable payment schedule. (More about these things to watch out for in a minute.) But, if you add up your interest only payments compared to the amortized payments, you’ve saved a big bundle during the interim. My husband and I have spent the last decade with two five-year fixed loans on our primary residence, and now that rates have gone down again, are looking to refinance again with the same scenario. We haven’t been building equity with our monthly mortgage payment, but the market has gone up so quickly, our mortgage loan’s value is now only 30% of the total price.
As with construction lenders, the first questions you need to ask will focus on whether or not the lender will offer country log home financing. A good source of such lenders will be the person who did your appraisal for the construction financing, because he or she will probably be familiar with lenders in your home’s area who finance country homes and/or log homes. Other good sources can be found in local newspapers, talking to area realtors, and checking with your current residence lender.
The rest of your questions will focus on rates, fees, and terms for various loan programs. Each lender will have several loan programs to discuss with you. Be flexible in these discussions. You may have already decided you want a classic 30-year fixed, or a seven-year fixed to adjustable, but the programs available and their monthly payment amounts may surprise you. Because loan programs vary so enormously from lender to lender (and from month to month with the same lender), never assume you know the answer to any of these questions. Set up a question sheet for each lender, find at least three that say they have experience lending on log homes, and go over the same question list with each of them.
Here are the questions you’ll need to ask to find the best permanent loan for your home.
Fixed Rate Loan Programs
1. What are your rates and fees for your zero-point 30-year fixed? How much would my monthly payment be for a loan amount of (you fill in the number of how much money you’ll need to pay off the construction loan)?
What to watch out for: Fees — an unusually low rate probably means an unusually high “origination fee” and/or “other” fees — and a stiff prepay penalty. Asking for a zero point rate gives you the rate to compare with other lenders, but don’t forget to ask if you can “buy down” the rate by paying a one-point (1% of the loan amount) “origination fee” just to get a feel for this other possibility. Never forget to get your monthly payment for your amount of loan with the different mortgage programs.
When does this kind of loan work for you? When you intend to keep your log home forever, this is the loan with the fewest surprises. Paying a point origination fee should start breaking even after five years. That means your total payments plus the origination fee will start to be less than the total payments for a zero-point loan. You save money on payments from then on. Have your loan agent give you the break-even numbers. Having a prepay plan the first three to five year should also not a big problem for you, as you don’t intend to sell or refinance.
2. What are your rates, fees, and monthly payment for your zero-point 15-year fixed loan?
What to watch out for: The same things as a 30-year fixed, except one more possibly sticky issue: These loans usually have a slightly lower interest rate than the 30-year fixed, but when you get to the “How much is my monthly payment?” question, you’ll see the monthly payment is much higher than the 30-year fixed. The explanation: You’re paying off the principal in half the time.
When does this loan work for you? If you’re currently earning a lot of money and you want to have the mortgage paid off as soon as possible, this can work well. As an added bonus, over the life of the loan you pay the bank less than half the interest you’d pay on the same amount borrowed under the bank’s 30-year fixed program.
ARM loan programs
Another area to look into is the lender’s Adjustable Rate Mortgage (ARM) loan programs. The interest and payment rate moves up or down with an underlying index, either every year or every six months. A few years ago, lenders introduced the Fixed-to-Adjustable “convertibles” — loans that are fixed for the first three, five, seven, or 10 years, then move to an annual or six-month adjustable payment schedule. Longer early fixed-rate periods became so popular that even the old fashioned six-month adjustable now calls itself a six-month fixed.
There are currently at least three basic ARM programs, and seemingly innumerable variations. Below are the questions and things to watch out for on the basic three.
3. What are your rates and fees and monthly payment amount on your Fixed to Adjustable mortgage with fixed-rate payment for the first three, five, seven, or 10 years, amortized over 30 years?
The amazing thing about 2007 rates so far is that there hasn’t been much difference between the five-, seven-, and 10-year ARM. This means you can have up to 10 years with a rate lower than the 30-year fixed.
What to watch out for: These kind of ARMs come with step-up and life-of-loan caps. The step-up cap clicks in annually or every six months once the loan converts from fixed to adjustable. A step-up cap is the amount a loan can move up from payment to payment, and is often between 1-2%. Besides finding out what your payment step-up cap is, always ask if there’s a different payment cap the first time your payment goes from fixed to adjustable.
Lenders have started eliminating the step-up cap at exactly the moment when you’re most likely to have a big jump in rate. Avoid these types of loans if at all possible.
The life-of-loan cap is usually between 4-6%, which means if you get in at a 5% rate this year, your loan interest rate can never be more than 9% or 11%, respectively. Avoid loans with life-of-loan caps higher than 6%.
When does this kind of loan work for you? These loans often come with a prepay penalty for the first few years of the fixed rate period, so they’re best for folks who intend to keep the home for about the same time as the fixed period of the loan. However, this can be a good fit if the timeframe in which you’ll sell or plan on retiring to the home in five to 10 year and will stop paying your current home mortgage. At that point you can pay off or refinance the log home ARM.
4. Do you offer a flex or option payment loan?
Loan agents often call these “pick your payment” loans. In my mind, these are “pick your poison” loans. Going under various names like “flex loans” and “four payment option” loans, and pushed by the giant national lenders, these loans have a fixed period between one month and five years. The shorter, one- to three-month fixed periods often come with astonishing 1-3% rates for their first fixed period.
What to watch out for: When they go adjustable, these loans have rates that float from month to month (as your credit cards do), with no step-up cap, and sometimes no life-of-loan cap. Instead, you can pick your payment between a minimum (which has a half-percentage point step-up cap each six months), an interest-only payment, and full principal and interest payments of either 15 or 30 years. Because the actual payment has no step-up cap, it can zoom up impossibly. You will pay the minimum, which allows the lender to add the unpaid interest into your principal, and your loan will be “negatively amortized” — it’s gotten bigger instead of smaller. Ouch!
Even worse, these loans often have a step-down restriction —your rate can never go below whatever percentage your lender dictates (often higher than current fixed rates). And they can raise the minimum payment if you get too far below current rates or you loan amount goes over the value of your home. Double Ouch!
When does this program work for you? Never.
5. What are your rates on zero-point fixed to adjustable interest-only loans for the first three, five, seven, years?
In 2007 the rates have been much the same for the five-, seven-, or 10-year mortgages. But don’t be surprised that the interest rate is higher than the fixed to adjustable 30-year amortized loans. Lenders explain they carry a higher rate, because the lender has more risk if you’re not paying down on principal every month. However, when you ask about your actual monthly payment, you’ll find these loans give you great savings during the years they’re fixed.
What to watch out for: Caps. Again, you need to find out step-up and life-of-loan caps, and again you’ll need to watch out for no cap the first time you start paying on the adjustable schedule.
Also ask about the amortization schedule. This loan really should be paid off after the fixed rate period is over. Even though they’re often called 30-year loans, remember that you didn’t amortize the loan during the fixed interest-only period.
Say you have a five-year fixed loan. When the adjustable portion kicks in, you’ll be looking at much higher payments (even if interest rates stay somewhat stable) because of the 25-year amortization schedule. Always ask your loan officer to calculate the first adjustable payment at today’s rates — but with your new amortization schedule — to know at least a minimum of what to be prepared for.
When does this loan work for you? Works great if you’ve got a tight budget paying for two mortgages and expect to sell the log home or refinance around the same time as the fixed payments come to an end. But please note — this is not a loan to put on auto payment! Mark “Time to Refi” in big red letters on your calendar three to six months ahead of the end of your fixed payments schedule. Even better, keep an eye on rates a year or two before your fixed payment comes to an end so you can catch the wave again.
Shari Steiner is a licensed real estate broker, speaker, and the co-author of Steiners Complete How-to-Talk Mortgage Talk and Steiners Complete How to Move Handbook. She helps people find dream homes and work up their finance requirements. Ask her questions on the www.movedoc.com website.