Trouble Ahead for Many Borrowers

Negative Amortization Mortgages

Negative amortization mortgages are sold as "Option ARMS", "Pay Option ARMS", "Pick-a-Pay" programs, and a under a variety of other euphemistic names. The characteristic they share in common is a low payment rate, usually between 1% and 1.95%. This rate is not the true note rate; it is the rate that your payment is based on. The true note rate is a market rate, or "fully indexed rate", and may be 5% or more above the payment rate.

The difference between your payment based on the low "payment rate" and the amount that you would have paid based on the "fully indexed rate" is added to your balance. The term "negative amortization" refers to the potential increase in the loan size over time. A normally amortizing home loan shrinks in size as you make payments. A typical negative amortization loan has the potential of growing to 125% of its original amount.

This type of loan is not all bad. A responsible borrower that understands the program can enjoy and benefit from the reduced payment that normally lasts for a five year period. Servicers of these loans usually provide a very clear monthly bill showing you exactly what is happening to your balance.

On the other hand, this type of mortgage presents a major risk for borrowers that cannot afford more than the minimum monthly payment. Many borrowers have used these loans to purchase homes in price ranges that would otherwise be out of reach. When the five year “minimum payment” period is over these borrowers will find that they cannot afford to live in the home anymore. They may also discover that they owe more than the home is worth. And in today’s weak real estate market this is a real possibility.

Florida mortgage borrowers applied for negative amortization mortgages in droves as home prices soared between 2001 and 2005. During this period of time property values generally kept up with any negative amortization that might have accrued. This is no longer the case. Many Florida mortgage borrowers, along with those in many other states, are finding that their home value is shrinking while their loan balances are increasing.

Does this describe you? Don't panic. Plan. Consider your options. It's always best to know the facts.

Interest Only Mortgages

Interest only loans allow you to pay only the interest due. The period of time that the interest only payment is allowed is typically limited to 5, 7, or 10 years. At the end of the interest only period the loan is amortized over the remaining years.

Unlike negative amortization mortgages, these loans do not increase in balance. For the interest only period you will enjoy a smaller payment than you would make on a normally amortizing loan. But it is important to keep in mind that when the interest only period is over your mortgage will be recast and your payments will be calculated based on the remaining term of the loan. A 30 year loan with a 10 year interest only period would become a 20 year amortizing loan at the end of the 10 year period. This can mean a big increase in your monthly payment. Will you be able to afford it?

Need Help?

Would you like to discuss your situation? We will be happy to speak with you about the possible benefits of refinancing. Or if you are getting ready to purchase a new home we will be happy to review your choices and help you determine the program that works best for your needs and desires.

Contact Jim Kemish at Power Mortgage Corp. for permission to reproduce this article electronically. Copyright © 2007 James W. Kemish. All Content. All Rights Reserved. Power Mortgage Corp. is a Florida Mortgage Company and is licensed in Florida, Georgia, Massachusetts, and Virginia.