Interest-Only Mortgage

webma · Joined: 16 Aug 2005 Posts: 27 Location: Chico, Ca. USA

There are only two things people should keep in mind before taking on an interest-only mortgage. The name interest-only mortgage is misleading. If truth be told, there is no such thing as an interest-only mortgage. In an interest-only mortgage, you will still have to pay for the loan principal. When you get an interest-only mortgage, what you’re really getting is an interest-only payment method which you can combine with other traditional mortgage types.

The other thing you need to keep in mind is that the stated benefits of interest-only mortgages are exaggerated. In a standard mortgage, 95% if each dollar paid to the lender goes to the loan interest. Thus on a $100,000 standard loan with 6% interest, the total payment would be $600 with the $500 going to interest and the other $100 for equity.

A Brief History of Interest-Only Mortgages

Interest-only mortgages are not relatively new concepts. The idea behind interest-only mortgages was spawned from the more flexible and more inventive jumbo mortgage markets. Because of this, interest-only mortgages are traditionally a loan type preferred by savvy investors and well-heeled clients who want to use the principal portion of their payment on other more productive investments.

Because interest-only mortgages are jumbo loans, the difference in monthly payment grows with the larger loan amount. For example, in a $100,000 interest-only mortgage loan, the per month difference is $100. If the loan is worth $1,000,000, then the difference per month grows to $1,000, a substantial amount that can be put to better use. The savvy investor can make it so that his investment using the money he gets from the per month difference growth of an interest-only mortgage can increase within a short period, thus leveraging incomes to build assets.

This is partly the reason why interest-only mortgages are still preferred by big-time investors. However, it is only natural to assume that there are some considerable risks associated with an interest-only mortgage, especially when it comes to stocks.

Interest-only mortgages have payment periods based on adjustable rate mortgages. This however is not always the case. Interest-only mortgage payment schedules are also offered in fixed rate mortgages as well. Interest-only mortgages have also gone mainstream so virtually anyone can borrow money with this type of loan.

Temporary Payment Periods

The payment periods for interest-only mortgages almost never run for the entire term of the loan. Even with a fixed rate mortgage, interest-only mortgages are still bound to be only temporary. And InterstFirst product only lets interest-only mortgage payments for half of the total term.

The expiration schedule of an interest-only mortgage payment is usually at the end of a set period. This makes interest-only mortgages compatible to “amalgam” adjustable rate mortgages. When the interest-only mortgage payment comes to an end your payment will then rise to include principal and interest.

The great thing about interest-only mortgages

Interest-only mortgage payments also have their advantages. Borrowers can find that there are various practical benefits that an interest-only mortgage can offer. First is that, interest-only mortgages can help you in accumulating assets. Because interest-only mortgages do not demand so much during its initial years, you can use the payment differential in a cash investment. The “spare” cash provided by interest-only mortgages may also be used for college money, retirement money, and even as a seasonal income factor.

Of course, you are the only person who can really tell if the mortgage option is right for you or not. However, awareness of the issues that surround those choices is a good way to make a more informed decision.

Haplo · Joined: 20 Jan 2005 Posts: 2422 Location: Springfield, IL

Quote: In a standard mortgage, 95% if each dollar paid to the lender goes to the loan interest. Thus on a $100,000 standard loan with 6% interest, the total payment would be $600 with the $500 going to interest and the other $100 for equity.

Errm, you're off on your numbers.

Quote: Of course, you are the only person who can really tell if the mortgage option is right for you or not

I disagree with this statement. You should be the one making the decision, but you are never the only person that knows. Dont' believe me? Check out the foreclosure rates, and ask that mortgage consultant if they thought it was really the best option for them.

m2c · Joined: 03 Aug 2005 Posts: 937

Hap, come on now – what’s 45 cents! $600 for a P&I on $100K at 6% is “close enough”. What was left on the table was the variance in absolute dollars and percentage thereof as the note rate changes. This is fairly major in the "alway true" mentality of borrowers. Exponential functions produce interesting results.

A borrower should look at the increase in payment when the mortgage (sans curtailments during the IO period) shifts from IO to P&I just to be prepared. Most LOs will present these figures without being asked.

Webma didn’t mention what I consider a major advantage of IOs – the auto recast during the IO period. Good for irregular income streams assuming the borrower make curtailments during the “good times” to realize immediate payment relief if needed. Much easier and less costly than a recast or the predetermination of a 2nd mortgage.

I haven’t yet bought into the “wealth accumulation” pitch. I love the much touted canned (and expensive) computer programs sold to LOs that include the tax benefit of mortgage interest but accumulate the “investment” account tax free. Right now I consider it a shell-game pitch to hook the rubes into believing they’ll be millionaires in 10 or 15 years.

Haplo · Joined: 20 Jan 2005 Posts: 2422 Location: Springfield, IL

I was talking more about the 95%...

webma · Joined: 16 Aug 2005 Posts: 27 Location: Chico, Ca. USA

Very good points guys.

That makes sense.

Thanks for the tips and getting the figures in line.