Mortgage Strategies By Michele Francis HOUSE, May-June 2003 'Seize the moment' is the call for those thinking about rates

Several months back, I urged anyone who would listen to 'seize the moment' and take advantage of low interest rates. With rates remaining as low they've been in forty years, the opportunity to 'seize the moment' remains very much alive. However, many financial experts warn of rising interest rates later this year. This leaves many people expecting to close on their homes later in the year facing a dilemma. Although they are many months away from the closing, at which time rates could very well be higher, these buyers would like to take advantage of today's favorable rate. What recourse does such a buyer have?

What I would recommend to these buyers would be to opt for a capped rate program with a float down option. Under this program, the buyer pays
an up front fee, usually 1 point(1% of the loan amount) in exchange for a limit being placed on how much the rate can increase before closing. The point paid will be refunded to the buyer at closing. The amount of rate cap protection depends on how long the buyer opts to cap the rate for. OK, suppose the experts are wrong and rates, instead of climbing before closing day, actually continue to drop. Enter the float down option. Within sixty days of closing, the buyer can choose to drop the capped rate down to one eighth above where the maeket rate has fallen to.

For example, a client decides to buy a new construction home $2,000,000 and put 35% towards a down payment. Rates on 30 year fixed rate moorages are currently 6% and construction is due to be completed in 6-7 months. Concerned that rates will be significantly higher by then, the buyer pays 1 point ($13,000 on a $1.3 million loan) and caps the rate at 6.75% for eight months. Sure enough, in the ensuing months interest rates shoot up to 8%. The monthly mortgage payment at 8% would be $9538.94. However, the client's prudence in capping the rate at 6.75% results in a mortgage payment of $8431.78, a savings of $1107.16. More good news: the $13,000 that the client paid up front is refunded at closing.

This program is ideal for the rate-conscious client buying new construction. The protection gained in a rising rate environment can be enormous. If predictions are wildly inaccurate and rates drop to new record lows again, then the risk is marginal. Lets look again. The rate is capped at 6.75% but market rates drop to 5% (6978.60 monthly mortgage payment). In this case, the client simply exercises the float down option within 60 days of closing. The capped interest rate of 6.75% "floats down" to 5.125%, resulting in a monthly mortgage payment of $7,078.33, a mere $99.73 more than if the client never chose the rate cap program.

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