The WSJ reports on the popularity of 10-year fixed-rate interest-only loans.
The interest rate, about 1/2% higher than a 30yr fixed, is fixed for the entire 30 years. You pay interest only for the first 10 years, and interest plus principal in the remaining 20 years.
Actually, of all of the “innovative” loan products of the last few years this is one of the least objectionable. Recall that with a typical 30-year fixed rate loan, the borrower only pays down about 15% of the original principal balance in the first 10 years. Consequently, it’s only that 15% or so that gets amortized – in effect – into the total monthly payment over the last 20 years of the loan. So, while there is a little bit of payment shock in year 11, it’s not very dramatic, especially in comparison with most of the other crazy products out there. Furthermore, from the lender’s risk management perspective, that extra 50 basis points of yield acts as a quasi-principal payment during the first 10 years of the loan. My general belief is that “innovative loan products” are synonomous with “future charge-offs” where lending institutions are concerned. But, in this case, I don’t see a big problem if the underwriting is done carefully. And, as a consumer, I would consider taking on one of these loans under the right circumstances.
That loan basically converts to a 20yr fixed in Year 11.
I checked a mortgage calculator. $500K loan.
30 yr fixed @ 6.25% = $3079/mo
20 yr fixed @ 6.75% = $3802/mo
So the payment jumps about 15-20% in Year 11. Mangeable for many folks, I presume, as long as you’re prepared for it…
The idea is sound, but it sucks. This allows the loan writer, and the Real Estate agent to max out a new buyer and have him upside down in 5 years when he’s ready to sell.
Its like being sold a pair of shoes that are too tight–they will stretch.
As a refi tool where the house owner makes a free willed decision (without a realtor trying to hook a commision and a kickback from the lender)it could work out pretty good.
The real estate agent is starving and the $15,000 commission he needs bad, the loan writer wants his $10,000 for writing the loan. At this point its like two high school kids dating, the girl wants to go see the movie, the guy has other plans.
Also a lot of people look to see what their friends have done and use that for reference. If “they” could do it, we can do it too. There we go with a new definition of the word “sheeple.”
The real issue here, is not “can we dig a hole here,” but rather “how were we able to dig it so deep as so we couldn’t get out of it.”
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