"Understanding Specialty Mortgages"

Over the past few years, many homebuyers have selected to use one of several new types of "Specialty Mortgages" that let them "stretch" their income so they can qualify for a larger loan. But make sure you understand their risks and how they work. "Specialty Mortgages" often begin with a low introductory interest rate or payment plan a "teaser" but the monthly mortgage payments are likely to increase a lot in the near future.

It’s in your best interest to learn the "ins and outs" of these "Specialty Mortgages" if you do not want to lose your home in the very near future when interest rates rise.

Common Types of Specialty Mortgages You May Have Selected:

Interest-Only Mortgages:

Your monthly mortgage payment only covers the interest you owe on the loan for the first 5 to 10 years of the loan, and you pay nothing to reduce the total amount you borrowed (this is called the "principal"). After the interest-only period, you start paying higher monthly payments that cover both the interest and principal that must be repaid over the remaining term of the loan.

Negative Amortization Mortgages:

Your monthly payment is less than the amount of interest you owe on the loan. The unpaid interest gets added to the loan’s principal amount, causing the total amount you owe to increase each month instead of getting smaller.

Option Payment ARM Mortgages:

You have the option to make different types of monthly payments with this mortgage. For example, you may make

• A minimum payment that is less than the amount needed to cover the interest and increases the total amount of your loan,
• An interest-only payment, or
• Payments calculated to pay off the loan over either 30 years or 15 years.

40-Year Mortgages:

You pay off your loan over 40 years, instead of the usual 30 years. While this reduces your monthly payment and helps you qualify to buy a home, you pay off the balance of your loan much more slowly and pay much more interest. This is only a short list of specialty mortgages. Today’s marketplace includes many variations on these types.

ARMs bigger bet smaller payoff

1. Payment Shock. One major risk is that your monthly payment may increase by a large amount, resulting in "payment shock." Even a change of 1% or 2% in interest rates can result in a very big jump in your monthly mortgage payment. Imagine when in the near future the interest rate on your mortgage goes up 2%, your monthly payment could rise by as much as 50% (from $1,000 to $1,500). Will you be able to afford the new larger monthly mortgage payment. If you can’t, you could lose your home.

Assume you bought a home for $300,000, put 10% down, and choose a 5.75% interest-only adjustable rate mortgage. The mortgage requires interest-only payments for 5 years. After that, the interest adjusts every year based on rates in effect at that point.

• Initial monthly payment: $1,294.
• Monthly payment after 5 years with no increase in mortgage interest rates (amount increases because payments begin to include principal in addition to interest): $1,699.
• Monthly payment after 5 years with a 3% increase in interest rate to 8.75%: $2,220.

Will you be able to afford an extra $500 to $1000 more on your mortgage payment?

2. Higher Debt Over Time. Another risk that comes with specialty mortgages involves your "equity", the amount your house is worth after you subtract the amount you still owe to the lender. Consumers who choose some types of "Specialty Mortgages" will build equity in their home much more slowly than with traditional loans. In fact, with some "Specialty Mortgages", the amount you owe on your home could increase rather than decrease over time. Negative amortization arises when the mortgage payment is smaller than the interest due. That causes your loan balance to increase rather than decrease.

3. If in the future your property value declines because of the market tendency, lenders may be reluctant to refinance your home if you do not have enough equity. What will you do then if you cannot afford the new higher monthly payment and cannot even refinance?

How can you best protect yourself from this happening to you? If you have selected one of these "Specialty Mortgages" here is what you need to find out TODAY:

As you can see this can be complicated and sometimes dangerous if you do not know exactly the terms of your loan (Most people are confused about their loan terms). When the payments on these novel mortgages adjust upward, you may not be able to refinance such mortgages unless the home has kept its increased in value. If interest rates rise sharply, the "payment shocks" could be huge. Homebuyers need to understand these risks, and thus financial education, is a key ingredient for creating solid homeownership. There are many great loan programs out there.

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