What are Interest Only Mortgages? Differences with standard home loans
What you need to know about Interest Only Mortgages...
- These loans can be either an ARM or Fixed rate mortgage.
- The purpose of these loans is to obtain the lowest possible payment per month. You are only paying the interest owed on the loan. No principal is paid down. So after 1 or 3 years of interest only payments the original principal balance will still be the same as the start of the loan.
Given that the basic function of an Interest Only mortgage is to have a lower monthly payment, then what circumstances will make borrowers apply for them.
- Some borrowers opt for these loans to purchase a bigger house.
- The borrower might have only a short term need for the lower payment.
- Some individuals that do not have any intention of paying off the mortgage.
The lower payments allow them to qualify for a larger loan amount and therefore bigger home. The drawback in this instance is that the borrower will not be paying down the principal and not building equity right away on their new home.
For instance, if a borrower knows that within 3-4 years they are going to sell this property and move they could opt for the lower payment for those years. So instead of paying the higher payment and paying down the loan they are able to save that money each month or allocate it for other areas of their lives. Slight drawback here is that the potential profit when it comes time to sell will be lower since they have stopped paying down the principal balance.
These individuals are at the point they do not want to pay off the mortgage in full and are comfortable with the loan amount and payment. This could be a tax strategy where the homeowner will have the tax deductible interest each year. Disadvantage to this scenario is the mortgage will never be paid off. So when the homeowners sell or transfer title to an heir that mortgage will still be on the property.
In conclusion it is up to your individual situation whether an Interest Only loan is right for you. Consult a professional mortgage consultant to weigh all the factors effecting you financially. Just because your neighbor or friend has an interest only loan doesn't necessarily mean you should get one.
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- Adjustable Rate Mortgages
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