Stern Advice: Designing your own mortgage

WASHINGTON Wed Jul 18, 2012 12:44pm EDT

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WASHINGTON (Reuters) - Here's an appealing idea: What if you could design your home loan so the house is paid off exactly when your kids go off to college, or when you retire? Or if you could refinance for 10, 12 or 17 years, instead of the standard 15- or 30-year terms on most fixed-rate mortgages?

Of course, most borrowers are free to prepay their mortgages, but now, some lenders are letting people borrow money for as many - or as few - years as they like.

Quicken Loans has created a product based on that premise. Called YOURgage, it lets borrowers choose the term of their loan - anything from 8 years to 30 years. Other lenders, who haven't marketed their efforts so explicitly, also are allowing borrowers to chose alternative maturities on their loans.

In June, 14.6 percent of refinancers took fixed-rate loans that had maturities other than 15 or 30 years, according to the Mortgage Bankers Association. This was a "remarkably large" 108-percent increase in takeup of alternative-maturity loans compared with June 2011, said Michael Fratantoni, vice president of research for the trade group.

"We've been highlighting for a couple of years that a large percentage of refinance borrowers are opting for shorter terms," he said in an interview. "The third favorite refinance product is for the 20-year term."

Fratantoni said the secondary market, made up of investors who buy mortgage-backed bonds, is also becoming more receptive to alternative maturity loans.

"As more of these loans get made, the liquidity of these loans improves, and that brings down rates relative to their terms and that makes them more attractive and they can get more borrowers."

A shorter-term, customized loan can be particularly appealing to established homeowners who want to take advantage of current record-low rates but don't want to extend the life of their existing mortgage.

But it's not automatically a good move to make. Here are some considerations.

WHAT'S YOUR RATE?

Even though Quicken will set the maturity on a loan to suit the customer, the interest rates on the loans aren't carefully calibrated for every possible year.

They tend to change in five-year increments, explained Bob Walters, the firm's chief economist. That means a 12-year loan will offer the same rate as a 15-year loan (last week that was 3.375 for a borrower with a top credit score and a significant amount of home equity.) An eight-year loan will have the same rate as a 10-year loan (3.125 last week for that same top-score borrower) and the like.

And that means that on some level, you are giving up flexibility without being paid for it with a lower rate. You may be better off getting the 10-year loan, running an eight-year amortization chart on it, and making those extra payments every month to pay it off early. That way, if you run into a cash-flow crunch, you can ratchet back to the lower payments a 10-year loan would require.

If you want the lowest possible rates for the longest possible term, it's still best to borrow at those popular five-year maturity increments.

COMPARE RATES

How does it compare to loans from other lenders? You can find what Fratantoni calls "odd duck" mortgages at smaller community banks that hold on to their own loans (instead of reselling them) or at bigger banks that may want to keep you happy if you have an existing relationship (read: lots of money deposited) with them.

But because these mortgages may still be more challenging for bankers to package up and re-sell, they may have to charge a bit more for them. So compare the short loan with traditional loans from other lenders.

If you can get a cheaper mortgage with no prepayment penalty for 15 years, there's little reason to pay more for a 12-year loan.

THINK ABOUT THE ECONOMY

"We're going to be laughing at these rates in four years," says Jim Holtzman, a financial planner with Legend Financial Advisors in Pittsburgh.

He contends that today's low-low mortgage rates suggest borrowers should go as long as possible, and that's what he tells most of his clients to do.

Taking a long mortgage (and not paying it off early) does increase the total interest you'll pay on a loan. But it also offers greater flexibility to keep your monthly payment affordable and put extra money in investments where it may earn more over 30 years than the under-4 percent (tax deductible) amount you're spending on interest with today's mortgages.

GET THE TIMING RIGHT

Look at your life. The biggest advantage to these new loans is the ability to time them so that you finish making monthly payments exactly when it's right for you.

But remember to consider other factors. It makes little sense to get a 12- or 17-year loan if you expect to move in five years, says Gary Vawter, a Columbus, Ohio, financial adviser.

"You'll be paying more to lock in a longer term at a higher rate and not getting the benefit of it."

DOES IT MAKE SENSE?

Do a gut check. Even if long-term mortgages make more sense at this juncture, and you can make extra pre-payments on your own, you may prefer the peace of mind that comes with being forced to finish off the loan fast.

You can't plot it on a spreadsheet, but a few basis points (hundredths of a percentage point) seem a small price to pay for a good night's sleep - in 8, 12, 17 or 29 years.

(Editing by Bernadette Baum)

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