Interest-only mortgages have become so popular, they’re spreading like wildfire, but if borrowers aren’t careful they’re going to get burned.
They're spreading like wildfire--interest-only mortgages appear to be the panacea for rising home prices and the incomes that can’t quite catch up. You can buy "more house" and have a low mortgage payment and a big tax deduction. Who wouldn’t want one, right?
Well, a large number of consumers are getting into these loans when they shouldn’t. Interest-only mortgages work well for some individuals and are dangerous for most others, yet the number of interest-only loans is rising rapidly.
Take a look at San Diego. In 2004 almost half of the mortgages required interest-only payments in the first few years according to a study done by LoanPerformance, a San Francisco--based real estate information service. Could this have something to do with the housing market? You bet it does. Are home prices rising faster than salaries and incomes? They sure are. So how is one supposed to afford a house in such an expensive housing market? You guessed it--an interest-only loan.
Interest only-loans were originally aimed at more sophisticated investors who wanted to leverage their income by re-directing what would have been the principal portion of their payment to higher yielding investments that exceed the rate of their home appreciation. These types of investors typically have more assets and financial discipline than most and therefore aren't as likely to get in as much trouble with such a loan.
Today, interest-only loans are being utilized by borrowers who are trying to leverage debt. What they are doing is getting more debt for their buck; they're borrowing more money but keeping their payments low (initially) in order to compete with other buyers in sellers’ markets. Here are some of the potential dangers that face such borrowers:
Interest-only mortgages make sense for borrowers:
Make sure you know what you’re getting into with an interest-only loan. Consult with your mortgage broker or lender to know what the possible repercussions could be, and be sure you’re getting the loan for the right reasons. Eventually, you want to own your home, and it’s better to be planning on that sooner than later.
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