Which ARM is the Best Alternative?

The 11th District Cost of Funds (COFI) Adjustable Rate Mortgage (ARM) offers several unique features that may appeal to borrowers seeking flexibility and potential cost savings. Let's break down some key aspects of this type of loan:

1. Interest Rate and Payment Options: With a COFI ARM, borrowers may benefit from an interest rate about 1% below a traditional thirty-year fixed rate mortgage, along with the option to pay zero points. Additionally, borrowers have the flexibility to choose from different payment options each month. These options typically include making the full payment at the current interest rate, paying only the interest due on the loan without reducing the principal, or making a minimum payment calculated at a low rate, such as 1.95%.
2. Adjustment Period and Index: COFI ARMs have an adjustment period, which determines how often the interest rate changes. Borrowers can choose between monthly, semi-annual, or annual adjustments. The COFI index, based on the weighted average of interest rates paid out on savings deposits by banking institutions in the 11th district of the Federal Home Loan Bank, offers stability as it moves slower than other indexes, such as treasury bill rates or the prime rate.
3. Margin and Rate Cap: The margin, which remains constant throughout the loan term, is added to the index to determine the borrower's interest rate. COFI ARMs typically have margins ranging from 2.25% to 3%. Additionally, the loan features rate caps, such as a "life-of-loan" cap, which limits the maximum interest rate over the loan term.
4. Deferred Interest and Amortization: Opting for the minimum payment option allows borrowers to defer part of the interest due on the loan, resulting in a larger loan balance. However, the loan includes fail-safes, such as periodic re-amortization, to ensure the loan is paid off within the agreed term. Borrowers should be aware that deferring interest may lead to increased payments over time.
5. Stated Income and Sub-Prime Options: Some COFI lenders offer loans without requiring borrowers to document their income, assets, or source of down payment, making the application process quicker and easier. However, borrowers with less than perfect credit may face slightly higher rates.
6. Suitability: COFI ARMs may appeal to a range of borrowers, including those purchasing homes between $300,000 and $650,000, individuals with fluctuating incomes, and those seeking tax planning benefits. The loan's flexibility and potential for lower initial payments make it attractive for buyers planning to move up to a larger home in the future.

In conclusion, while COFI ARMs offer attractive features and benefits, borrowers should carefully consider their financial situation, risk tolerance, and long-term goals before opting for this type of loan. Additionally, it's essential to thoroughly understand all aspects of the loan, including potential payment increases and the impact of deferred interest, before making a decision.