Fixed Rate Mortgages
Fixed Rate mortgages are loans in which your monthly payments for interest and principal are fixed for the life of the loan.

Fixed rate mortgages are available for 10, 15, 20, 30 and even 40 year terms. There are also "bi-weekly" mortgages, which shorten the term of the loan by calling for half the monthly payment every two weeks. (Since there are 52 weeks in a year, you make 26 payments, or 13 months worth, every year.)

Fixed rate fully amortizing loans have two distinct features. First, the interest rate remains fixed for the life of the loan. Secondly, the payments remain level for the life of the loan and are structured to fully repay the loan at the end of the term. The most common fixed rate loans are 15 and 30 year mortgages.

During the early amortization period, a large percentage of the monthly payment is applied to paying the interest due. As the loan is paid down, more of the monthly payment is applied to principal. A typical 30 year fixed rate mortgage takes 22.5 years of level payments to pay half of the original loan amount.

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Hybrid Mortgage
A hybrid mortgage, also called a fixed-period ARM, combines features of both fixed-rate and adjustable-rate mortgages. A hybrid loan starts out with an interest rate that is fixed for a period of years (usually 3, 5, 7 or 10 years). Then, the loan converts to an adjustable rate mortgage. The appeal of a fixed-period ARM is that the initial interest rate for the fixed period of the loan is considerably lower than the rate on a mortgage that's fixed for 30 years. The shorter the fixed term of the loan, the lower the initial interest rate.

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Adjustable Rate Mortgages (ARMs)
Most adjustable rate loans (ARMs) have a low introductory rate or "start rate" a.k.a "teaser rate", sometimes as much as 5.0% below the current market rate of a 30 year fixed loan. The start rate is typically in effect from as little as 1 month to as long as 10 years. As a rule, the lower the start rate the shorter the time before the loan makes its first adjustment.

Index
The index of an ARM is the financial instrument that the loan is "tied to" or adjusted to. The most common indices, or, indexes are the 1-Year Treasury Security, The Treasury Average, the LIBOR i.e. (London Inter Bank Offered Rate), the Prime Lending Rate, and the11th District Cost of Funds a.k.a.(COFI). Each of these indices can move up or down based on the movement or direction of the financial markets.

Margin
The margin is one of the most important aspects of an ARM because it is added to the index to determine the interest rate that you owe. The margin added to the index is referred to as the fully indexed rate. As an example, if the current index value is 3.0% and your loan has a margin of 2.5%, your fully indexed rate is 5.50%. Margins on loans typically range from 1.75% to 3.5%, depending on the index used, the quality of the loan application, (including the credit scores), the loan size in relation to the value of the property, etc..

Interim Caps
Many ARMs carry interim caps of six- months or one year. Interest rate caps are beneficial in rising interest rate markets, but can also keep your interest rate higher than the fully indexed rate, if rates are falling rapidly.

Payment Caps
Some loans have payment caps instead of interest rate caps. These loans reduce payment shock in a rising interest rate market, but can also lead to deferred interest or "negative amortization". These loans generally cap your annual payment increases to 7.5% of the previous year's payment and typically do so for the first five years only.

Lifetime Caps
Almost all ARMs have a maximum interest rate or lifetime interest rate cap. The lifetime cap varies from one loan program to another. Loans offered with low lifetime caps often have higher margins, and the reverse can also be true. An applicant should carefully consider which feature is more important to them based on their particular scenario and how long they believe they will retain the mortgage.

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Interest Only Mortgages
With an Interest Only loan there is a set term during which the borrower has the option to pay only the interest due on the loan, causing the principal balance to remain unchanged. This feature is available on fixed rate, true adjustable rate mortgages (ARMs) and hybrid mortgages (ie, those that combine the features of both fixed and adjustable rate mortgages). Depending upon the particular loan product and lender chosen, the interest only period can range from three to fifteen years. Each month, borrowers have the choice of making the interest only payment, the full principal and interest payment or any amount in between. At the end of the interest only term, the loan balance is amortized for the remaining term and the borrower's payments will include both principal and interest.

Many people find these loans attractive for the following reasons:

• They allow borrowers to qualify at the interest only payment, enabling them to qualify for a higher loan amount.
• Borrowers who expect their income to increase over time appreciate being able to take advantage of the lower monthly payments due on the loan initially.
• Some borrowers like the flexibility of either making the full principal and interest payment or taking the difference between the full payment and the interest only payment due and directing it to the investment of their choice.
• With a majority of the Interest Only products offered, the borrower's monthly payment is determined by the current outstanding principal balance. Therefore, if a borrower makes a principal pay down during the interest only period, their monthly interest only payment (as well as the optional principal and interest payment) will be reduced accordingly. This feature appeals to borrowers, such as those that receive bonuses or those who have yet to sell their home, who anticipate receiving a considerable amount of funds in the near future and plan on making a principal pay down with those funds.

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Negatively Amortizing Loans or "Option ARMs"
Option ARMs are adjustable rate mortgages (or ARMs) with the added flexibility of making one of five possible payments on your mortgage every month, allowing you to better manage your monthly cash flow. The common term for these types of loans currently is "Option ARMs". As they have a potential for deferred interest, they are also termed negative amortization mortgages (Neg-Am). Typically the amount of the deferred interest is limited to 110% to 125% of the original loan balance.

With a standard loan, the mortgage payment you make each month includes a portion paid towards interest due and a portion that pays down the principal of the loan. Over the term of your loan (i.e., 15 - 40 yrs) the principal balance will steadily decrease until it reaches a zero balance, fully amortizing the loan. This process is reversed with an Option ARM and, if you so choose, the principal balance can increase slightly each month. The increase can occur because the lender gives you the option of making a payment that is less than the actual amount due according to your interest rate.

The components of an Option ARM include those typical to an adjustable rate mortgage such as an index, margin and life cap. However, they are differentiated by two additional components. The first is a very low introductory period that is effective for a set period of time (ranging from as little as 1 month to as much as 5 years). The second component is an annual payment cap (usually 7.5% per year), so called because it "caps" the amount that your payment can increase in any given year.

While the payment increase is capped, the interest rate on the loan is not. After the initial introductory period, the interest rate adjusts higher based upon the loan's margin plus the current index rate. The difference between the capped payment and the actual payment due is added to the principal balance, increasing the total loan amount owed to the lender.

The borrower has more control and flexibility with this type of loan because the mortgage statement they receive each month gives them the choice of four different payments: the minimum payment due, the interest only payment (available as long as it is greater than the minimum payment due), a fully amortized payment based on a 30 yr loan or a fully amortized payment based on a 15 yr loan. Additionally (although not referenced on the monthly statement), a fifth option is available. Essentially, you can pay as little as the required minimum payment due and add any amount you desire. Thus, you have up to 5 options allowing you to tailor your mortgage payment according to your monthly income, as long as at least the minimum payment is made.

Borrowers who seek out this type of loan include those who have fluctuating income or those who might not have the necessary cash flow to make higher payments initially, but may choose to do so later. Additionally, some borrowers who anticipate their property will appreciate in value in an amount greater than their deferred interest may decide to continue making minimum payments in the hope that their increased loan balance will safely be covered through a sale or refinance.
Finally, Option ARMs are often used by sophisticated investors who prefer to determine on a monthly basis where their money is best directed. They may decide their funds are maximized if left invested in other financial instruments if their long term rate of return exceeds the rate paid on their current mortgage, adjusted for taxes.

Please note: Option ARMs have several attractive features; however, they should be thoroughly understood before they are obtained. Your All California Mortgage, Inc. loan agent will explain all aspects of this loan to you in great detail.