Virtually every lender or loan category involves variation of the loan term and interest rate. The loan term is the length of time by which the loan is amortized. The loan term is fixed, whereas the interest rate can vary throughout the term of the loan. Each loan type (fixed versus variable interest rate, 15-year versus 30-year) has a place for the borrower/ investor, and we will explore the benefits and detriments of each. The most common type of real estate loan is a fixed-rate, 30-year amortization. A fixed-rate loan is desirable because it provides certainty. It hedges your bet against higher interest rates by allowing you to lock in a low interest rate. If interest rates fall, you can always refinance at a lower rate at a later time. With interest rates uncertain in the future, many lenders are offering variable-rate financing. Known as an adjustable-rate mortgage (ARM), there are dozens of variations to suit the lender’s profit motives and borrower’s needs. ARMs have two limits, or caps, on the rate increase. One cap regulates the limit on interest rate increases over the life of the loan; the other limits the amount the interest rate can be increased at a time. For example, if the initial rate is 6 percent, it may have a lifetime cap of 11 percent and a one-time cap of 2 percent.

The adjustments are made monthly, every six months, once a year, or once every few years, depending on the “index” on which the ARM is based. An index is an outside source that can be determined by formulas, such as the following:

• LIBOR (London Interbank Offered Rate)—based on the interest rate at which international banks lend and borrow funds in the London Interbank market.

• COFI (Cost of Funds Index)—based on the 11th District’s Federal Home Loan Bank of San Francisco. These loans often adjust on a monthly basis, which can make articlekeeping a real headache!

• T-bills Index—based on average rates the Federal government pays on U.S. treasury bills. Also known as the Treasury Constant Maturity, or TCM.

• CD Index (certificate of deposit)—based on average rates banks are paying on six-month CDs. The index you choose will affect how long your rate is fixed for and the chances that your interest rate will increase. Which one is best? Because that depends on what is going on in the national and world economy, you have to review your short-term and long-term goals with your lender before choosing an index. ARMs are very common in the subprime market and with portfolio lenders, but they can be very risky because of the uncertainty of future interest rates. However, like a balloon mortgage, an ARM can be used effectively with a little common sense. If you plan to sell or refinance the property within a few years, then an ARM may make sense.

For more information on ARM loans, you can download the official consumer pamphlet prepared by the Federal Reserve Board and the Office of Thrift Supervision at my Web site, <www.legalwiz.com>.

Choosing a Lender

Choosing a lender that you want to work with involves several factors, not the least of which is an open mind. You need a lender that can bend the rules a little when you need it and get the job done on a deadline. You need a lender that is large enough to have pull, but small enough to give you personal attention. And, most of all, you need a lender that can deliver what it promises.

Length of Time in Business Because the mortgage brokering business is not highly regulated in most states, there are a lot of f ly-by-night operations. Bad news travels faster than good news in business, so bad mortgage brokers don’t last too long. Look for a company that has been in business for a few years. Check out the company’s history with your local better business bureau. If mortgage brokers are licensed with your state, check to see if any complaints or investigations were made against them. Also, ask for referrals from other investors and real estate agents. Many mortgage brokers will bait you with “too good to be true” loan programs that most investors won’t qualify for. Once they have you hooked, it may be too late to switch brokers, and now you are forced to take whatever loan they can find for you. It’s not that all of these mortgage brokers are crooks; it’s often the case that the broker is just not knowledgeable about the particular loan programs they offer. In many cases, the particular lender they were dealing with was the culprit. Many wholesale lenders offer programs to mortgage brokers, then when the loan comes through, the underwriter changes its mind or asks for more documentation. In some cases, it is the old bait and switch; in other cases, it is simply a miscommunication between the wholesale lender and the mortgage broker. Thus, it is important that you ask the mortgage broker if it has dealt with the particular lender or loan program in the past.

Company Size A company that is too big can be problematic because of high employee turnaround. Also, the proverbial “buck” gets passed around a lot. If you are dealing with a mortgage broker, it is often a one-person operation. Dealing with a one-man operation may be good in terms of communication if he or she is a go-getter. On the other hand, the individual may be hard to get a hold of, because he or she is answering the phone all day. A small to midsized company is a good bet. You will be able to get the boss on the phone, but he or she will have a good support staff to handle the minor details. Also, a midsized company may have access to more wholesale lenders than a one-person company.

Experience in Investment Properties It is important to deal with a mortgage broker or banker that has experience with investor loans. Owner-occupant loans are entirely different than investor loans. And, it is important that the broker or lender you are dealing with has a number of different programs. It is often the case that you find out a particular loan program won’t work, in which case you need to switch lenders (or loan programs) in a heartbeat to meet a funding deadline.

How to Present the Deal to a Lender For the most part, lenders follow guidelines established by FNMA and Freddie Mac, as well as their own lending guidelines. If you are looking for the best interest rate, then you must be able to conform to FNMA guidelines, which include a high credit score, provable income, and verifiable assets. If you are not going with a conforming loan, then there are the following basic guidelines a lender will look at:

• Your credit score

• Your provable income

• The property itself

• Your down payment