VIENNA, Va. – Although low rates persist, experts concur the refinance boom is over and with it the high mortgage application traffic into credit unions from members that was almost a given in the low rate environment. Now, with the cyclical transition into a purchase market, credit unions are vying for members' dollars in a more competitive market and that means coming out with more innovative, creative products to make sure they're offering a full array of mortgage products. "We're definitely seeing innovation in the market, both in the distribution channels and with mortgage products," observes Callahan & Associates EVP Jay Johnson, and the menu of products credit unions are offering continues to grow. Adjustable rate mortgages, for example, are becoming increasing more popular – 30% of the market is currently in various ARMs, according to the Mortgage Bankers Association. Although they're relatively new products for most credit unions-ARMs accounted for 16% of all first mortgage CU originations in the first quarter 2004 – still an increasing number of CUs are focusing their mortgage strategies on ARMs because, as Johnson says, "adjustable is where people will look for innovation because there's a lot of room for adjustment and creativity, and they're all designed to making the loan affordable for the member to be in the house they want to be in." State Employees CU, Raleigh, N.C. started making ARMs exclusively starting in the 1980s for that reason and because, said SVP for Lending Phil Greer "we decided it wasn't appropriate to fund fixed rate loans with short term variable rates of deposit after the financial institution deregulation act of 1980." SECU had made fixed rate loans prior to that, and it started making them again about four years ago, but Greer says all of those loans are in the process of being sold to Fannie Mae or Freddie Mac, so "for all intensive purposes we don't have any fixed rate loans in our portfolio except those in transition to being sold to Fannie or Freddie.". Over the 14 or so years SECU has offered ARMs, it's experimented with different varieties of the product such as one that allowed for negative amortization where the rate was adjusted quarterly and payment was adjusted every three years, and the traditional 1-, 3- and 5-year ARM. In 1993 SECU also developed a 2-year ARM that allowed the rate to change 1% every two years and not more than 8% over the life of the loan. In its fiscal year 2003 – July 2003-June 2004-SECU originated just under $2.7 billion in loans, and Greer said all but $100 million of those were ARMS- the most popular is a 30-year ARM. The CU's mortgage portfolio is $6.3 billion. Greer points out that fixed rate mortgages continue to be attractive to those of its members who can afford to make a larger downpayment of 20% or more on a home or those who continue to be apprehensive about rising rates or are on a fixed income. But for the majority of SECU's 1.1 million members, many of whom are state employees or teachers "who typically borrow 90-95% of the purchase price of the property because we don't charge for private mortgage insurance, we can demonstrate to those members that even in the worst case scenario over 10 years they'll come out making lower out-of-pocket costs with an ARM than a fixed rate mortgage," Greer explains. "Had we offered just fixed rate mortgages some of our members wouldn't have been able to afford a home, so the ARMs make it easier for them to qualify for a loan to start with," he adds. "An ARM product can be the product of choice for members in a purchase market," says Greer, "because it provides a lower rate to start with and increases the member's purchase power. An ARM can clearly be a product of choice for a knowledgeable consumer." He emphasized that, "An adjustable rate loan, whether it be a 2- or 1-year ARM or a Fannie or Freddie product is a product that requires a little more time by a loan staff in explaining the loan to the member so the member can make a prudent decision." Other credit unions have taken their mortgage creative energies out on other types of products. Last month, for example, CU Companies, a Minnesota mortgage CUSO owned by 54 CUs throughout the state that offers mortgage, realty, title, investment and insurance services to members, came out with a 40-year, fixed rate mortgage with its subsidiary CU Mortgage Inc. The product requires a 5% down payment and "is offered at highly competitive rates," the company says. Although it may take homeowners using the product longer to build up equity, CU Companies said the lower monthly payments increases buyers' home purchasing power. In July, Navy FCU introduced an innovative product to its mortgage product mix – an interest free loan. The world's largest CU, with over $22 billion in assets and more than 2.4 million members, offers about 42 different mortgage products such as 15- and 30-year fixed rate, VA loans and 7-year balloon mortgages, as well as a full array of regular and interest-only ARMs. "A purchase market tends to be more competitive than a refinance market, and you tend to see a greater variety of mortgage products," says Navy's Tom Steele, EVP for lending Steele said Navy's mortgage portfolio is still about 75% comprised of fixed rate mortgages and another 25% are ARMs, particularly 3/1′s. He said "that's a big change" for Navy because the credit union has primarily been a fixed rate lender and the CU's members tend to be very conservative. This is how the interest-only mortgage works: the member makes a lower payment in the early years of the loan, allowing them to obtain a higher loan amount. At a designated point in the life of the loan, payments in an amount sufficient to pay the loan in full -including principal and interest – must be made. These payments are higher than the payment for a standard loan which starts to amortize the principal balance with the first payment due date. After being available to members for two months, he said Navy has about 80 interest-only mortgages in the pipeline. Steele emphasized that the interest-only mortgage "is not right for everybody. This may be for people who are just starting out in their business and can only afford so much home now, like a doctor or lawyer, but who anticipates earning more in the future." He added that the new product could also appeal to members who live in high market value areas and in rapidly appreciating markets where many Navy FCU members live, such as the Washington, D.C. metro, southern California, and the Northwest-Seattle areas. The product, says Steele, allows that member to get into a home they otherwise couldn't afford to acquire. Then, as the value of the home goes up, the member builds equity. "It's part of our responsibility to help each member understand the mortgage choice they're making," said Steele. Navy FCU closed $6.5 billion in mortgages in 2003. As of August, it had already closed 4 billion, and Steele forecast that Navy expects to do more than $5 billion by the end of 2004, but not as much as it did in 2003. Of course a lot of that will depend on how fast interest rates change. "Without a sudden rise in rates we should continue to have a strong purchase market," he predicts. -

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