Just a few years ago, the most exotic loan programs and repatriation options were available for US financing. One form has become established and is the basis for almost all US loans: the annuity, consisting of interest and repayment, as we know from regular annuity loans.
Anyone who, like many other European investors, is planning to buy a holiday home or an investment property in Florida should know in advance what expenses to expect.
"PITI"
This stands for “Principal”, “Interest”, “Tax” and “Insurance”, i.e. interest, repayment, insurance and property tax. With a few exceptions, these are the four items that a foreign borrower has to take into account every month.
Minimum monthly load
Interest and repayment are self-explanatory. Most US financing provides for a contractual (maximum) term of 30 years. The amortization also extends over this period, i.e. if the fixed installments were paid regularly, the loan would be completely repaid after 30 years. Practice shows that these loans are repaid after a few years (the average is 5-7 years). The advantage of this long term: The minimum monthly installments are very low. Instead, the borrower decides whether and when he will make additional repayments due to a good exchange rate, good rental income or other reasons – this means maximum flexibility. The first installment for annuity loans is the interest plus an initial repayment portion of a good one percent. With each additional month, the interest portion decreases and the repayment portion increases within the monthly installment.
"ARMs", adjustment of monthly payments
Since well over 95% of European borrowers take out a so-called “ARM” (variable interest mortgage loan), the question arises to what extent the variable interest rate also affects the monthly payment. The ARMs all provide for an initial interest rate fixation of usually three, five or even seven years. This means that the annuity remains unchanged during this period (if the interest/repayment ratio is shifted monthly, see above). After this first interest rate fixation period, not only the interest rate can adjust (up or down, depending on market developments and within a contractually agreed framework in advance), but also the rate.
Adjustment upwards
The annuity can increase if the interest rate has adjusted upwards. Of course, there is a contractually agreed cap to protect the borrower.
Adjustment downwards
The annuity can fall if either the interest rate has adjusted downwards or if early repayment has been made. Because, very important, American financing stipulates that any financing can be partially or completely repaid without incurring penalty interest. After the initial fixed interest rate, the interest rate and monthly rate can be adjusted every 12 months. This means that if the interest rate remains the same and early repayments are made, the monthly installments will gradually decrease.
Fixed interest rates
With mortgages with a fixed interest rate, the annuity always remains the same – up to the last cent repaid. Here too, you can repay partially or completely without having to pay penalty interest. But here the interest/repayment portion shifts and the term shortens accordingly.
Insurance and property tax
Almost without exception, US banks collect interest and repayments as well as insurance and property taxes from borrowers every month. For this purpose, an escrow account is opened and one twelfth of the annual insurance premiums and one twelfth of the annual property tax costs are debited and saved in addition to the loan installment (the borrower can of course freely choose the insurance agency regardless). Each year at the due date, the financing bank pays from this escrow account the new insurance policy for the next 12 months and the property taxes (in November) of the year ending. The borrower then no longer has to pay these items separately.
Construction financing
There is a big difference here when it comes to the monthly rates. Once construction is completed, the “PITI” payments of an “ARM” apply, i.e. interest + principal + insurance + property tax. Rates are irregular during construction. Two important advantages: There are neither early repayment penalties nor commitment interest rates for construction financing in the USA. A construction contract specifies the installment payments to the construction company for each construction phase. During the construction phase, the financing bank only charges the borrower interest on the amount paid out – nothing more. So no interest on the total loan amount and no repayment either. This means that the rates start very low and slowly increase per construction phase; the full burden only takes effect after construction has been completed.
Commercial financing
So-called “balloons” usually apply here. This means a shorter term, such as three, five or ten years and amortization over 20 or 25 years. This means that the loan is serviced with a regular and consistent annuity and is due in full after 36, 60 or 120 months.
