The margin

The amount of the margin stays fixed over the life of the loan. To reiterate, the value of the margin stays the same. The index value is the variable feature on the Option ARM (or any adjustable rate mortgage for that matter). So, more important than the start rate on an Option ARM is the amount of the margin. Please, please, please ask what margin value the lender/mortgage broker is quoting you. You must inquire what the amount of the margin is as it is not disclosed on the Good Faith Estimate or Truth-in-Lending Disclosures! At least not directly. It is buried in the annual percentage rate which makes it difficult, if not impossible, to clearly ascertain. This is a key factor you should be comparing. For example:

Let's say ABC Mortgage quoted you a 1% start rate with a 2.5% margin at a 1% origination fee.

CBS Bank also quoted you a 1% start rate with a 3.0% margin and also a 1% origination fee. CBS Banks's margin is 1/2% higher, which makes your interest rate 1/2% higher. On a $200,000 loan amount, that equates to a minimum of $1,000 extra in interest payments annually! I say minimum because if you made the minimum payment of $643.28, your payment would be insufficient to cover the interest portion due on the loan and that difference will be added to your principal balance known as negative amortization (detailed explanation to follow in an upcoming post). Then you will be assessed more interest on your deferred interest or negative amortization!

I can not emphasize enough the importance of obtaining the lowest margin possible at the same cost and with no prepayment penalty. What I mean by that is if all the lenders are quoting you a 1% origination fee (then you are comparing apples to apples), you know the best deal is the one with the lowest margin. The lower the margin, the lower your interest rate. Though prepayment penalties are a subject for a future post, I mention this now as one of the lenders ploys may be to indicate they can get you a lower margin if a prepayment penalty is added to the terms of the loan program. Please do not let anyone talk you into a prepayment penalty. One never knows what life has in store for us and it is best to not be hindered with a long and expensive prepayment penalty. Sometimes short term prepayment penalites (1 year or less) are do-able. More to come on prepayment penalties and how they are calculated in an upcoming post.