Interest Only Loans allow you the
flexibility of investing your money where you wish, not just in your house.
During the first five years of your loan you can either pay interest only, or
include whatever amount of principal you wish, even a large principal
prepayment if desired. After five years your loan will require monthly payments
of both principal and interest.
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The reduction in minimum payment is
dramatic.
Example:
Loan Amount: $333,700
Interest Rate:
4.500% (for example use only, not a rate quote)
Minimum monthly
payments:
Interest (4.50%) Only
= $1,251
Principal and Interest (4.50%) Mortgage = $1,691 Reduced monthly payment via Interest Only Mortgage= $440
Comparing this minimum payment of $1,251 against the higher rates that many
homeowners currently have and the savings is even more pronounced:
Same scenario as above but current rate on existing Principal and Interest loan
is 5.875%:
Monthly payment is $1,973.96. Reduced monthly payment via
Interest Only Mortgage = $723
Please be fully aware that with the
Interest Only mortgages if you pay the minimum required amount (interest only)
during the first five years your principal balance will not start reducing
until year six when principal and interest payments start.
Common Interest Only Loan Details
(your loan may differ)
30-year mortgage with an interest rate that adjusts
according to the following program specifics:
The borrower pays interest only during the
inital fixed period term (5 years). The unpaid balance is then fully amortized
over the remaining term of the loan as an adjustable rate mortgage.
The borrower may make voluntary principal
payments during the interest only period. The required interest only payment
will be reduced to reflect the decrease in the principal upaid balance.
The borrower is qualified using the full P
& I for the loan (even though the borrower's payments will be for interest
only).
Index is based on the average of Interbank
Offered Rates for 1 year U.S. dollar-denominated deposits in the London Market
(LIBOR), as published in the Wall Street Journal. The index rate used to
calculate changes to the interest rate is the value available as of the first
business day of the month prior to the date of adjustment.
Starting with the first interest rate
adjustment on your loan, the Interest Rate will be based on the Index plus the
Margin, rounded to the nearest one-eighth on one percentage point.
Margin: 2.250 to 3.000
The interest rate cannot increase or decrease
by more than 5 percentage points at the First Rate Change Date, and will not
increase or decrease by more than 2.00 percentage points at any subsequent Rate
Change Date.
Over the term of the loan, the Interest Rate
cannot increase by more than 5.00 percentage points above the Initial Interest
Rate or decrease to less than the Margin on your loan.
Conversion Option is available on some Interest Only programs.
Article from California Department of Corporations website
Are interest-only mortgages a good
deal?
By: Dian Hymer April 19, 2004
Many home
buyers are turning to mortgages with interest-only payment schedules so they
can afford to buy a more expensive home. These mortgages have lower monthly
payments, which makes qualifying easier. But the lower payments don’t last
forever, and interest-only loans aren’t for everyone.
Mortgages
with an interest-only payment feature come in many varieties. Basically, they
work like this. The borrower pays interest-only payments for the first five, 10
or 15 years. The monthly payments are lower than they would be with a fully
amortized loan during this initial period. However, at the end of the
interest-only payment period, the borrower still owes the entire amount
borrowed.
With a fully amortized loan, part of each monthly payment
pays back a portion of the principal (the amount borrowed). A fully amortized
payment schedule pays back the loan in full during the term of the loan, which
is usually 30 years. At the end of 30 years, you owe nothing.
Interest-only is a bit of a misnomer. You ultimately have to repay the amount
you borrow, so you won’t make interest-only payments indefinitely. After
the initial interest-only period, the principal is amortized over the remaining
loan term. With a 30-year mortgage that has a 5-year interest-only payment
plan, the principal will be amortized over the remaining 25 years of the loan.
A shorter amortization period requires the borrower to make a higher monthly
payment in order to repay the loan more quickly. This means an increase in the
monthly payment starting with year six of the loan.
For example, if
you were to borrow $250,000 at 6 percent, using a 30-year fixed-rate mortgage,
your monthly payment would be $1,499. On the other hand, if you borrowed
$250,000 at 6 percent, using a 30-year mortgage with a 5-year interest-only
payment plan, your monthly payment initially would be $1,250. This saves you
$249 per month or $2,987 a year. However, when you reach year six, your monthly
payments will jump to $1,611, or $361 more per month. Hopefully, your income
will have jumped accordingly to support the higher payments.
Mortgages
with interest-only payment options may save you money in the short-run, but
they actually cost more over the 30-year term of the loan. However, most
borrowers repay their mortgages well before the end of the full 30-year loan
term.
A mortgage with an interest-only payment schedule makes sense
for some borrowers and is potentially risky for others. Borrowers who are
counting on home-price appreciation to build equity could find themselves in a
financial bind if home prices should drop and, for whatever reason,
they’re forced to sell.
Not all interest-only mortgages have a
fixed interest rate. Some have one rate for the initial interest-only period
and a higher rate—with a much larger monthly payment—for the
remainder of the loan term. Others resemble adjustable-rate mortgages (ARMs). A
popular variety has a fixed rate with interest-only payments for the first five
years. Then it converts to a 1-year ARM. You could face serious payment shock
if interest rates rose significantly during the first five years.
Borrowers with sporadic incomes can benefit from interest-only mortgages. This
is particularly the case if the mortgage is one that permits the borrower to
pay more than interest-only. In this case, the borrower can pay interest-only
during lean times and use bonuses or income spurts to pay down the principal.
THE CLOSING: If you’re planning to use a mortgage with an
interest-only payment plan, and this is the only way you can qualify, make sure
you’ll be able to afford to keep your home when the higher monthly
payments kick in.
Copyright 2004 Dian Hymer
Distributed by Inman
News
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