It’s been a long time since adjustable-rate mortgages, or ARMs, were very popular among homebuyers. Because mortgage rates have been near historic lows for several years, a mortgage in which the rate could only go up didn’t make sense for most borrowers.
As rates have soared, however, ARMs are making a major comeback among borrowers who are trying to get into a home with the lowest possible monthly payment they can get. And just like ARMs are originated differently than fixed-rate mortgages, they are serviced differently, too—plus the main index used to calculate rate adjustments recently changed.
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If your servicing portfolio has a growing number of ARM borrowers, how prepared are you to provide the service they need while keeping costs down?
Clearly, the big story in today’s housing market is interest rates, which have just risen to their highest level in 20 years. To put this in perspective, a 30-year fixed rate loan of $300,000 at last year’s rate of 3.5% would have a principal and interest payment of $1,347. At a 7.5% rate today, that payment is now $2,098, a 56% increase.
For this reason, a growing number of buyers are now getting ARMs, where the rate for the initial loan term is lower than fixed-rate loans, often by 1% or more. That means borrowers can get into a home with a significantly lower payment – at least during the initial 3, 5, 7 or 10-year ARM term.
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In fact, according to the Mortgage Bankers Association, ARMs grew from 3.1% of all mortgage applications during the first week of January to 10.3% by mid-May and 12% of all applications by late October.
ARMs still aren’t as popular as they were during the buildup to the 2008 housing crisis. But then, ARMs have changed considerably since then—and how servicers manage ARM loans has changed, too.
The biggest change with today’s ARM products is that the adjustable rate is calculated differently. Until last year, ARM rates adjusted according to the London Interbank Offered Rate, or LIBOR. Now banks are required to use the Secured Overnight Financing Rate, or SOFR, which is based on the U.S. Treasury repurchase market and is deemed to be more accurate and less risky.
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Even though the index has changed, ARM rates can still go up in the future. Many borrowers get ARMs with the expectation that they will sell their home before their rate adjusts. But that doesn’t always mean they will. Certainly, a recession, a job change, or a major family event could derail these plans.
Fortunately, borrowers must qualify for these products at the maximum capped rate to ensure they are able to repay them. However, it can still be a shock when their mortgage payment actually goes up. This means servicers must be proactive, transparent and compliant when communicating with borrowers so there are no surprises.
Historically, the servicing industry has run into problems handling rate adjustments on ARMs. According to a 2019 report from the Federal Reserve Bank of Minneapolis, for example, examiners found some servicers were not properly informing ARM borrowers of upcoming changes to their rates and their mortgage payments.
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Those risks still exist, and now there’s a new one. Many servicers are using technology platforms that have not been updated to support the change from LIBOR to SOFR. In addition, quite a few servicers are still relying on legacy platforms that aren’t equipped to handle disclosures and other borrower communications when rates adjust.
As ARM popularity grows, these deficiencies can only have a negative impact on a servicer’s performance. They’re why some servicers have been rethinking their servicing technology and making the switch to MCC Mortgage Solutions.
In fact, our technology supports all loan instruments and types, including ARMs, option ARMs, and many other products. It supports rate adjustments according to the SOFR index, and it’s also highly configurable to a servicer’s unique needs based on the types of portfolios they manage.
Most importantly, our technology ensures all ARM borrower communications and disclosures are made compliantly and on time.
If you’d like to know how MCC Mortgage Solutions can help you service ARM loans more efficiently and safely, give us a call at 248-350-9290 or drop us a note to firstname.lastname@example.org.