- October 13, 2015
- Thomas Adam
- Real Estate
Buying a home is a big milestone, whether it’s a first home, fifth home, or investment home. Its also a big legal undertaking filled with long, in-depth contracts full of legalese that can be confusing and its easy to get caught up in the excitement, ignore the portions that are difficult to understand, and proceed. Don’t do that. Most mortgage lenders are honest and fair but some aren’t and if you don’t take the time to understand the agreement you’re entering into, you’re at risk of entering into a bad deal that could cost you your ability to stay in your home further down the line.
Of course, if you’re not an expert in the field, it can be difficult to know the difference between a mortgage that is a good deal and a high risk mortgage that almost sets up the homeowner for failure. As a rule of thumb, there are a few types of mortgage loans that tend to yield unfavorable results for homeowners and a higher rate than more traditional mortgages and you should proceed with caution before entering into them. Two such risky and common mortgage loans include interest only and Option ARMs.
Interest Only Loans
An interest only loan is exactly what it sounds like, a loan where for a fixed period of time, the borrower is only responsible for the interest. These loans are appealing because the monthly payments are low, allowing for the purchase of a more expensive home with a lower monthly payment. The money not spent on the mortgage can be used for other purposes, like investments or paying down other debt.
The most concerning downside is that by only paying interest, no money is going to pay down the principle and even after years of making interest only payments, you will be no closer to actually owning your home outright or even having valuable equity built up. Additionally, interest only loans can lure purchasers into buying homes outside of their budgets in the hopes that future pay increases or successful investments will make them better able to make payments when it becomes time to start tackling the principle. Which leads to the last point, the interest only payments don’t last forever. After a number of years the borrower will either have to start paying on the principal resulting in substantially increased payments.
An Option ARM or “pay-option” ARM sounds like a dream come true: the borrower can choose between monthly payment options ranging from an interest only payment to a 30-year fully amortizing payment (meaning the loan would be paid off at the end of 30 years). Additionally, the introductory interest rates are typically very low.
However, the flexibility and initial low interest payments are countered by the uncertainty and risk this type of loan carries. There is a risk (and strong likelihood) that the interest rate will increase dramatically after the introductory period. There are also terms that govern what happens if there is “negative amortization.” Negative amortization is when the loan payment is less than the interest rate in a given payment period. The interest is added to the loans balance and the effect is that instead of paying down the loan, the borrower owes more than when they entered into the loan. These types of loans typically include provisions that require larger payments when a certain level of negative amortization is reached. As you might be able to tell, these loans tend to have complex terms adding to their risk and uncertainty.
Good For Some, Not Good For All
Despite the higher levels of risk associated with these mortgage loan options, they are not always bad deals, they are just options that should be carefully considered and pursued cautiously. What is best depends on your individual situation and one of the above types of mortgages might in fact be well suited for you.
Making carefully reasoned decisions when entering into a mortgage agreement can help you avoid a bad deal and foreclosure. However, even if you’re already in a less than favorable situation, there may still be options, like mortgage modification, available to help you avoid foreclosure and stay in your home. To discuss your high risk mortgage situation, contact the attorneys at Adam Law Group today.