CONSUMER HANDBOOK

CONSUMER HANDBOOK
ON ADJUSTABLE RATE MORTGAGES



We believe a fully informed consumer is in the best
position to make a sound economic choice. If you are buying a
home, and looking for a home loan, this booklet will provide
useful basic information about ARMs. It cannot provide all the
answers you will need, but we believe it is a good starting
point.


PEOPLE ARE ASKING


"Some newspaper ads for home loans show surprisingly low rates.
Are these loans for real, or is there a catch?"


Some of the ads you see are for adjustable rate mortgages
(ARMs). These loans may have low rates for a short time--maybe
only for the first year. After that, the rates can be adjusted
on a regular basis. This means that the interest rate and the
amount of the monthly payment can go up or down.


"Will I know in advance how much my payment may go up?"


With an adjustable-rate mortgage, your future monthly
payment is uncertain. Some types of ARMs put a ceiling on your
payment increase or rate increase from one period to the next.
Virtually all must put a ceiling on interest-rate increases
over the life of the loan.


"Is an ARM the right type of loan for me?"


That depends on your financial situation and the terms of
the ARM. ARMs carry risks in periods of rising interest rates,
but can be cheaper over a longer term if interest rates
decline. You will be able to answer the question better once
you understand more about adjustable-rate mortgages. This
booklet should help.

Mortgages have changed, and so have the questions that
need to be asked and answered.

Shopping for a mortgage used to be a relatively simple
process. Most home mortgage loans had interest rates that did
not change over the life of the loan. Choosing among these
fixed-rate mortgage loans meant comparing interest rates,
monthly payments, fees, prepayment penalties, and due-on-sale
clauses.

Today, many loans have interest rates (and monthly
payments) that can change from time to time. To compare one ARM
with another or with a fixed-rate mortgage, you need to know
about indexes, margins, discounts, caps, negative amortization,
and convertibility. You need to consider the maximum amount
your monthly payment could increase. Most important, you need
to compare what might happen to your mortgage costs with your
future ability to pay.

This booklet explains how ARMs work and some of the risks
and advantages to borrowers that ARMs introduce. It discusses
features that can help reduce the risks and gives some pointers
about advertising and other ways you can get information from
lenders. Important ARM terms are defined in a glossary on page
19. And a checklist at the end of the booklet should help you
ask lenders the right questions and figure out whether an ARM
is right for you. Asking lenders to fill out the checklist is a
good way to get the information you need to compare mortgages.


WHAT IS AN ARM?


With a fixed-rate mortgage, the interest rate stays the
same during the life of the loan. But with an ARM, the interest
rate changes periodically, usually in relation to an index, and
payments may go up or down accordingly.

Lenders generally charge lower initial interest rates for
ARMs than for fixed-rate mortgages. This makes the ARM easier
on your pocketbook at first than a fixed-rate mortgage for the
same amount. It also means that you might qualify for a larger
loan because lenders sometimes make this decision on the basis
of your current income and the first year's payments. Moreover,
your ARM could be less expensive over a long period than a
fixed-rate mortgage--for example, if interest rates remain
steady or move lower.

Against these advantages, you have to weigh the risk that
an increase in interest rates would lead to higher monthly
payments in the future. It's a trade-off--you get a lower rate
with an ARM in exchange for assuming more risk.

Here are some questions you need to consider:

* Is my income likely to rise enough to cover higher
mortgage payments if interest rates go up?

* Will I be taking on other sizable debts, such as a loan
for a car or school tuition, in the near future?

* How long do I plan to own this home? (If you plan to sell
soon, rising interest rates may not pose the problem they
do if you plan to own the house for a long time.)

* Can my payments increase even if interest rates generally
do not increase?


HOW ARMS WORK:
THE BASIC FEATURES


The Adjustment Period


With most ARMs, the interest rate and monthly payment
change every year, every three years, or every five years.
However, some ARMs have more frequent interest and payment
changes. The period between one rate change and the next is
called the adjustment period. So, a loan with an adjustment
period of one year is called a one-year ARM, and the interest
rate can change once every year.


The Index


Most lenders tie ARM interest rate changes to changes in
an "index rate." These indexes usually go up and down with the
general movement of interest rates. If the index rate moves up,
so does your mortgage rate in most circumstances, and you will
probably have to make higher monthly payments. On the other
hand, if the index rate goes down your monthly payment may go
down.

Lenders base ARM rates on a variety of indexes. Among the
most common are the rates on one-, three-, or five-year
Treasury securities. Another common index is the national or
regional average cost of funds to savings and loan
associations. A few lenders use their own cost of funds, over
which--unlike other indexes--they have some control. You should
ask what index will be used and how often it changes. Also ask
how it has behaved in the past and where it is published.


The Margin


To determine the interest rate on an ARM, lenders add to
the index rate a few percentage points called the "margin." The
amount of the margin can differ from one lender to another, but
it is usually constant over the life of the loan.



Let's say, for example, that you are comparing ARMs
offered by two different lenders. Both ARMs are for 30 years
and an amount of $65,000. (All the examples used in this
booklet are based on this amount for a 30-year term. Note that
the payment amounts shown here do not include items like taxes
or insurance.)

Both lenders use the one-year Treasury index. But the
first lender uses a 2% margin, and the second lender uses a 3%
margin. Here is how that difference in margin would affect your
initial monthly payment.



In comparing ARMs, look at both the index and margin for
each plan. Some indexes have higher average values, but they
are usually used with lower margins. Be sure to discuss the
margin with your lender.