Interest Only Loans

Author: Ryann Cairns

So called interest only loans have begun to pop up here and there across the mortgage loan landscape. These loans take advantage of the fact that home prices have been rising fast enough to allow home buyers to sell their homes and take advantage of the higher price when they sell.

In a market environment where prices are steadily on the rise, it may not matter as much that the homeowner has not built up much equity in their home. He or she can simply turn a profit based on the increased value of the home. Home prices are unlikely to continue rising at this rate indefinitely, however, and an interest only loan can sometimes be a risky strategy to use.

If prices fail to rise sufficiently, or if interest rates rise significantly, a homeowner could end up owing more on an interest rate only mortgage than the home is worth. Since no equity is built up when using an interest only loan, the homeowner must rely solely on price appreciation of his or her home.

An interest only loan can sometimes make sense, however, especially for buyers who do not plan to remain in their homes for a long period of time. People who must move often for their jobs, for instance, may be able to benefit from the lower payments and still make a modest profit based on the appreciation in the housing market.

It also pays to remember that interest only mortgage loans generally are variable rate loans. This means that if interest rates start to rise, the amount of the home buyer’s monthly payment will rise along with it. While the payment will still generally be lower than on a loan which includes repayment of principal, the payments may still rise to an unacceptable or unsustainable level.

Before agreeing to an interest only loan, make sure you understand all the terms and conditions involved. These are not the typical mortgage loans, and they may have terms and conditions with which you are unfamiliar. Be sure you know what the interest rate cap is, how long the term of the loan is, and if a balloon payment is required sometime down the road.

If you are unsure about anything at all, be sure to ask before you sign the loan agreement. The bottom line is that interest only loans can be good vehicles, but only for certain home buyers with very specific goals and needs. Be sure to do your homework and your research before taking out one of these specialized mortgage loans.

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