Interest Only Mortgages - How does an interest only loan work and why would I want a loan that I only pay the interest on and never pay down the balance? These are common questions asked about interest only loans everyday. An interest only loan is simply another option for consumers when they are dealing with a mortgage. There are fixed rate loans, adjustable rate loans, 30 year mortgages, 40 year mortgages, interest only home loans, etc... Interest only loans provide for a lot more flexibility each month in your monthly payment by requiring the borrower to only have to make the interest only portion of a mortgage payment instead of principal and interest. You are free to pay more than the interest only amount whenever you would like which will lower the principal balance of the loan and your home should always appreciate so you are still gaining equity in your home.
An interst only payment may be a good option for those who are seasonally employed, self employed, or in commission based positions because it gives you the option to pay less when money is tight, and pay more when you have the ability to comfortably do so.
Interst only loans are also attractive to investors. The payment flexibility allows an owner to pay less if their property is not producing income.
However, on small loan amounts, an interest only payment may not be that much lower than a fully amortizing loan payment. Ask your loan officer to help you compare the two.
All interest only loans are interest only for a fixed period of time. (Generally 1-10 years, depending on the program) Make sure that the interest only option you are receiving will match your needs regarding how long you need the lower payment.
Interest-Only Mortgages are sometimes used by homebuyers to purchase a bigger home than they can otherwise afford. Because Interest Only home loans have monthly payments lower than that of fully amortized mortgages, homebuyers can acquire a mortgage with a higher loan amount.
Interest-only loans also have some drawbacks. One pitfall is that attractive starting rates of interest-only loans may lure consumers into loans that they cannot afford long-term. For instance, once the "interest-only" part of the loan expires, say in five or 10 years, your mortgage payments can shoot up significantly, hundreds or even thousands of dollars more each month. Also, before the interest-only period expires, rates can increase, which will cause the monthly payment to increase.
Interest only mortgages can be very beneficial to the financially disciplined homeowner. Provided the homeowner can invest the equivalent of the principal payment that would be made on a fully amortizing loan and earn a return in excess of the after tax cost of interest the homeowner will come out ahead.
Interest-only loan - It’s a mortgage loan that is structured so that the borrower pays only the interest due for a certain amount of time; for example- three, five, seven, or 10 years. After the interest-only period has expired, the loan is renegotiated at the current interest rate for the remaining life of the loan. For example, if the loan were set up as a seven-year interest-only loan, the borrower would pay only interest for the first seven years. At that time the principal would be amortized over the remaining 23 years of the 30-year loan at current interest rates.
After the fixed period of interest only payment, usually 5 or 10 years, the loan will be recasted into either 25 year or 20 year loan. The borrower needs to be careful and plan for the payment shock once the loan is recasted.
Interest Only mortgages allow a home buyer to qualify for a bigger home with his current income. This interest only feature is useful for those who expect to have an increase in salaries and those who have other uses for their income.
Borrowers may want to look at the side by side comparison of an interest only loan compared to a regular Principal and interest payment loan and make a plan as to what they can do to productively make use of the difference such as investing or paying down higher interest debt.
Borrowers should always keep in mind that the interest only payment feature is an option. The borrower always is able to make payments towards principal reduction (within the parameters of any pre payment penalty restrictions) if they choose to do so. This is why an interest only feature is attractive to borrowers with fluctuating monthly income or who are self employed.
Interest only loans are great for self-employed and commissioned borrowers. Interest only loans provide more flexibility in making your monthly mortgage payments. For self-employed and commissioned borrowers this gives them the ability to pay more than the interest only payment when they have good months, and to pay the minimum interest only payment during slower months.
During the interest only period you are paying nothing toward the principal of your loan. Therefore, your equity will grow more slowly. If home values are appreciating slowly in your area, it may be several years before your home will sell for enough to pay off your mortgage plus realtor fees and closing costs.
An interest only loan can increase the purchasing power for people can not find anything in their price range that they would even consider living in.
Interest only loan can provide extra cash flow for your living needs if you are retired or living on a fixed income.
If you are retired or living on a fixed income an interest only loan can provide extra cash flow for your living needs.
Interest Only loans are a compelling and attractive option for first time home buyers and borrowers whose incomes are increasing quickly every year.
One look at an amortization table from your lender is often all the reason a borrower needs to go the interest only route for 1 to 5 years, as in a classic principal & interest mortgage only a very small amount of principal is paid off in the same time period, and the money saved by the interest only borrower each month often can be much more useful in the borrower's pocket instead of the bank's.
Should i refinance into a Pay Option ARM - Pay option ARMS are not for every borrower but there are a few borrowers that can benefit from the Pay Option ARM mortgage programs available today.
Self-Employed and Commissioned workers- With the flexible options in the Pay option programs these borrowers can adjust their monthly payments according to their monthly earnings.
Borrowers with high consumer debt– By lowering their mortgage payment these borrowers are able to pay of higher interest debt faster.
If the house you are living in is not your last house or it is a stepping stone towards a bigger purchase down the road then a payment option arm may be a good fit for you. You save additional money each month with flexible payment options and in turn your house takes on the financial burden. So if you plan to sell your place in the next few years the payment option arm should be an option to consider.
Fixed rate pay option ARMS have recently become availible to homeowners that are looking for financial flexibility with a little more security then a standard option ARM.
Avoid Payment Option Arms with high margins and three year pre-payment penalties. On most Option Arms the rate changes monthly according to a specific index and is determined by adding the margin to the index. The higher the margin the higher your rate will be. If the loan contains a pre-payment penalty and you want to refinance to avoid an increasingly higher rate, it will cost you thousands of dollars.
Some Option ARM's specifically have SOFT pre-payment options. This gives you the flexibility of selling your home without paying the pre-payment penalty or refinancing with the same lender to have your pre-payment penalty waived. This gives you the flexibility of the Option ARM without being stuck while the market drastically changes on you.
Before deciding on an Option ARM first determine why you are considering a refinance. Are you refinancing to save money each month? Would you like to get some cash out? Do you live in a rapidly appreciating area?
Taking cash out through an Option ARM mortgage is a great way to separate cash from equity to start a business, make an investment or otherwise improve your quality of life. They are a powerful financial tool in the right hands, and when used responsibly can dramatically improve your lifestyle.
Make sure that you have your mortgage professional clearly lay out the terms of your particular loan program. Pay particular attention to your fully indexed rate and to any pre-payment penalty that is attached to the loan.
Should I refinance into a pay option ARM? This mortgage product provides flexibility by offering various size loan payments. This is good to provide cash flow. The downside is that if you chose the lowest payment you will be deferring the interest on the loan, resulting in a higher loan balance to pay off.
The pay option arm is also a great tool for seasonal workers. If you are a painter, and know that the majority of your income comes from the summer months, then you could adjust your payments to those months. You would be able to pay more on your mortgage while you are making more money, and pay less during the months that are typically slower for you. This would leave more cash in your hands during those slow months.
A Pay Option ARM is also a great tool for property investors. It gives you flexible payments that can help in months when the property is vacant, or in the event repairs are needed it can be used to offset the cost of repairs rather than using cash out of pocket.
The Pay Option ARM is also a great way to pay down credit card debt, without laying out additional cash on a monthly basis. This method of managing your mortgage provides interest savings as well as it will usually provide some sizeable Taxes savings.
Ask your mortgage broker to review your situation and see if you could benefit from the pay option ARM programs. If a pay option ARM is not for you there may be better programs based on your situation.
If your household, like many in the US today, seems never to have enough cash every month and you find yourself constantly turning to credit cards or other expensive debt, this loan may be quite helpful. The Pay Option ARM can free up needed cash every month and help you avoid the other, more expensive kind of debt.
Option Arms are a good choice for:
-Increased cash flow on investment properties
-Areas with high appreciation
-Lower payments in order to invest and payoff debt
-People who have unpredictable incomes.
When considering whether to refinance into a Pay Option ARM, always keep in mind that Pay Option ARM can create negative amortization. Negative amortization occurs when a home owner makes the minimum monthly payments, which are less than the interests incurred, and ends up owing more than what the homeowner owed originally. Most Pay Option ARM programs re-adjust the payments every year so that the loan balance would not be too much more than the original loan amount.
The Pay Option ARM gives you 4 "options" to make your payment.
(1) The minimum payment.
(2) Interest only payment.
(3) 30 year fully amortizing payment.
(4) 15 year fully amortizing payment
Pay Option ARM's are generally not meant to be programs that one stays with for long periods of time, such as 10 years or more. Pay Option ARM's can incur negative amortization which means instead of your mortgage balance going down it actually increases. Most Pay Option ARM's have a cap that will not allow the balance of your loan to increase higher than 115% of the appraised value of your home. Most also have a rate cap that states the rate can't increase any higher than 9.95%. These numbers may vary slightly so check with your mortgage broker on the exact details of your loan program.
Pay Option Arms come in a great number of flavors. One particular flavor is where you get the 4 various options of paying but the interest rate and the payment are fixed for 3, 5, 7 or 10 years. Contact Home Jones to find out if the program is suitable for you.
Pay Option Arms are also a great tool for those who receive large annual bonuses as part of their compensation. One can budget their expenses each month based on their salary, then make a lump sum payment to principal once a year.
Who Can Benefit From an Payment Option ARM - Self-employed borrowers with inconsistent income
Borrowers with inadequate or no retirement savings
Borrowers who want cash reserves for emergencies
Borrowers who need money to start or expand a business
Borrowers who need mortgage payments to be as small as possible
Borrowers who want to stop using high interest credit cards
Borrowers seeking financial flexibility
Due to the large number of recent entrants into the California real estate market over the past few years, and the extensive use of Payment Option / Minimum Payment & Interest Only mortgage types in the state, housing prices in the state aer significantly higher than most surrounding areas on the West Coast. Many borrowers are able to use the minimum payment option available on these loans to dramatically reduce their housing costs for several years.
My estimate would be that in the state of California, somewhere near 70 per cent of homeowners could benefit from an Option ARM loan program. I base this on the fact that monthly cash flow is a problem as evidenced by the high credit card debt that some many households are carrying.
In an area of high appreciation using an Option Arm on an investment property allowing it to have a positive cash flow while the property is being rented out and selling the rental after a period of time may be an advantageous way to use an Option ARM.
Pay Option ARMs are great for many borrowers. Another common situation is borrowers who own a rental property. The flexibility and minimum payments can be used to maximize cash flow from the property and or to off set additional expenses such as repairs.
The great thing about the Pay Option ARM is that it can benefit most people. Because of its flexiblity, it can be catered to meet the needs and goals of most people. I personally like the Pay Option ARM because it gives me more cash flow on my rental property and I have more money to invest in other properties or investments.
However, it really needs to be conveyed that this loan is NOT meant for everyone. The PayOption mortgage can have its down falls and if you are not the type of person who is very involved with their finances, you might want to consider a 3/1 or 5/1 Interest only ARM.
The pay option arm is a great alternative for those considering a Reverse Mortgae giving them a much lower payment option.
Pay Option ARM is also referred to as a Pick a Payment loan. It gives the borrower the option to make one of four payment types every month, (1) minimum payment, (2) interest only payment, (3)payment based on 30 year amortizations, and (4) payment based on 15 year amortizations.
One of the negative effects of this mortgage can be the negative amortization of your mortgage over time. This, in simple terms, is adding debt to your property, and can happen if you always pay the lowest payment, as it is usually 1-3% interest rate. The difference between what your fully amortizing rate is, and this low rate, will be the debt added to your home.
This loan can be great, however, when the market is hot! Often times you can get into an investment property, pay less than the current rent rates, and still gain value in the property. This is a great tool for leveraging cash when trying to buy multiple rental properties. Once the market turns, you can refinance the properties into traditional mortgages and cash out on the refinance to cover any deficiencies between your new mortgage payments and the rent you are collecting.
One of the hottest mortgage programs on the market these days is the option arm mortgage. Alternatively you may have heard of option ARMS by the names "Pay Option ARM" "Payment Option ARM" "12 Month MAT" or "Pick-A-Payment Mortgage". And we've discovered that there are at the least 4 compelling reasons why smart and savvy borrowers are flocking to Option ARMS... these pick-a-pay loans give the borrower 4 different payment amounts to choose from every single month.
The First Payment Option is based on a start rate as low as 1%, sometimes even less, depending on your credit and a few other factors. Your Second Payment Option is usually on an interest only choice. Pay Option Three is generally a principal and interest payment choice amortized over 30 or 40 years depending on the program you select. Finally, for those times when you have extra money available and you want to pay down your principal and build equity faster, the fourth choice is a pay option based on the 15 year amortized payment to pricipal and interest. In Summary, an option arm provides you with flexible options every month, which help to manage your cash flow and monthly budget with more control. And you can get a lot more house for your money, or free up that cash flow to start your own business or make investments.
The best way to put a pay option arm mortgage to work for you is to talk with one of our experienced option arm experts who will design a personalized program just for you based on your own individual or your family's goals, income, monthly bills and future housing or investment property plans.
Pros and Cons Of An Pay Option Arm - If you are considering an option arm there are many things that you should be aware of. Like any other type of loan it is very important to completely understand how the loan works, and what that will mean to you in the long run.
The ability to make minimum payments is not limited to Adjustable Rate Mortgage products, there are fixed rate loans with minimum payment options which allow substantially lower minimum payments than conventional mortgages without sacrificing any of the stability or predictability of the classic 30 year fixed.
One con of the the pay option arm is that if you make the minimum payment option each and every month, you will most likely incur negative amortization. Negative amortization is when your loan balance actually increases instead of decreases. Negative amortization occurs because the minimum payment that is required is not high enough to cover the interest portion of the payment. Therefore, please understand how the Pay Option ARM works and that your mortgage loan balance can actually go up instead of down which can eat away at the equity you have available in your home.
Because of its flexibility, the Pay Option ARM it can be catered to meet the needs of many borrowers.
People with fluctuating incomes can benefit from the Option Arm because it allows more payment options each month.
The pay option arm can be very useful for savvy investors. The low minimum required payment means increased cash flow can be used for other investments. And because some pay option arms have introductory fixed rates for up to 5 years, an investor can determine how much the additional leverage of deferred interest will cost in the long run.
Payment option arms offer up to four different payment options each month that gives you the ability to choose the payment that best fits your financial needs that month;
- The minumum payment
- Interest Only Payment
- Fully amortized payment (30 or 40 year term)
- Fully amortized 15 year payment.
To fully utilize the benefits of a pay option ARM it takes a lot of control and common sense. The last thing that you want to do is take the money you save by making the minimum payments and buy a depreciating asset such as a car or boat!
- Good investment tool (more positive cash flow for investors)
- Borrower can put extra savings into IRA or 401K plan that can outpace the negative amortization
- Allows you to afford more house than you would normally qualify for
- Takes advantage of high appreciation rates in certain areas
- Negative Amortization can lead to a higher mortgage balance than you started with
- Not a good loan for irresponsible borrowers
- Allows you to afford more house than you would normally qualify for
- Many lenders will not give you a 2nd mortgage behind the negative amortization 1st, so if you're planning on getting a 2nd in the near future, your options will be limited
The pay option arm could be a great way of obtaining property you only wish to hold on to for a short period of time. However, be aware that the longer you pay the minimum payment only, the more you could owe in the future.
Is An Option ARM Good For Me? - It seems like everywhere you look lately you will see an advertisement that reads, "$150,000 refinancing for $381/month. Apply online today!". Just remember that, as your mother told you, "If it seems to good to be true, it probably is".
Option ARMs are a terrific way to get a very low beginning payment. What you never see advertised is the danger. Option ARMs are adjustable rate mortgages that begin at very low interest rates (typically 1.00%) and change up to market rates 30 days after you sign. What it means to the home owner is that the low payment he/she started with is NOT enough to pay for the interest the lender charged that month!
Most Adjustable Rate Mortgages (ARMs) remain fixed for 1, 3, 5 or longer years. This is not the case with Option ARMs. They only remain fixed for 30 days.
A good way to determine whether an option arm is for you or not is to be honest about your current situation. Most advice doled out by television pundits and journalists is given in a vacuum, and does not take into account the reality of your own situation. Ask yourself, have you been at risk of missing a mortgage payment, or are you credit card minimum payments starting to become overwhelming? If you were to be out of work for a month or two, would your be able to make all the payments necessary to stay current on all of your bills, including your house? Wouldn't paying off all those bills, reducing your monthly interest expenses (which you can write off on a mortgage, sometimes even the deferred interest) and getting access to a minimum payment which could allow you to withstand those tight times be a better alternative than one emergency spiralling your personal finances out of control? If things are tight, we even have loans available today which allow for no payments for 90 days after a cash out refinance, and these are hugely popular for debt consolidation. But you won't be able to qualify once your credit has already been damaged by a missed mortgage or credit card payment, so think proactively and protect your financial future today.
Option ARM's are also an excellent tool for the savvy homeowner who realizes that in some markets the appreciation on their home more than offsets the interest that accrues during the years before recasting occurs. These savvy homeowners are able to save the money that would normally be used to pay towards their mortgage and increase their net worth thus being able to potentially payoff their mortgage that much quicker in the future.
If the minimum payment offered by the Option ARM mortgage is the only payment you can realistically afford then this loan is definitely not the best loan for you. Indeed, homeownership itself might not be suitable for you.
If the minimum payment is the only payment you can afford to buy a home I would advise you to reconsider purchasing altogether as you are probably better off renting for now. This loan was designed for individuals with considerable cash flow and/or savings who wish to choose how best to allocate their money on a month-to-month basis.
If you are considering an Option ARM loan to keep you in your home because your financial situation has changed I would encourage you to consider selling your property immediately. If you think it might take a while before the home is sold then go ahead and refinance without a prepayment penalty and then list the home for sale once the loan has closed. This advice might not make me win a popularity contest with the lenders I work with but it may very well allow you to avoid some nasty surprises later on.
While Option ARM's may present potential dangers to those homeowners who are not experienced in managing their cashflow wisely, there is a definite benefit to this type of loan when the right person utilizes it.
For example, an investor who wishes to flip their property soon after the purchase can indeed benefit from the low starting payments which typically start at 1.00% of the loan amount. Because of the low payments, not only is it easier to qualify for the loan, the investor also increases their monthly cashflow from rent payments received.
Depending on which institution is offering the Option ARM, interest rates are generally fixed for 30 days, 6 months, 1 year, 3 years, or 5 years.
An Option ARM can be a good choice if your income fluctuates. During an average to good month, you can make a full payment. During a slow month, you can make an interest only payment. During a bad month, you can make a minimum paymant.
If you are not an investor and plan on living in your home for several years then make sure the 30 year payment option is something you can comfortably afford. With an Option ARM you should avoid paying only the minimum payment more than once or twice a year including emergencies. If you continually make only the minimum payment then your loan will recast sooner and you may have a payment that you cannot afford. The interest only payment will at least keep your loan balance from increasing where as the minimum deferred interest payment causes the loan balance to rise.
It is important to be aware of the prepayment penalty and negative amortization associated with these loans as well. While they may save you dollars on a monthly basis, if handled carelessly, than can damage the equity in your home.