what is an Interest-Only Mortgage

[kev374]

The idea is to lock in a fixed payment as opposed to being exposed to rapidly rising rents. After the 10 yr interest only period ends there is a reset but the buyer speculates that his salary would have increased by then but rents would have also increased tremendously (especially considering rents have been increasing 8-10% annually in South OC). He also speculates that 10yrs is a long enough time to ride out any temporary dip in prices. In addition for buyers in the high tax bracket who itemize anyway to deduct state taxes, the deduction of the entire IO payment is attractive since you recoup 37% of the payment back (assuming no AMT issues).

Personally I don’t like IO but I can see how some loan officers manage to convince their customers with these selling points.

[kev374]

The idea is to lock in a fixed payment as opposed to being exposed to rapidly rising rents. After the 10 yr interest only period ends there is a reset but the buyer speculates that his salary would have increased by then but rents would have also increased tremendously (especially considering rents have been increasing 8-10% annually in South OC). He also speculates that 10yrs is a long enough time to ride out any temporary dip in prices. In addition for buyers in the high tax bracket who itemize anyway to deduct state taxes, the deduction of the entire IO payment is attractive since you recoup 37% of the payment back (assuming no AMT issues).

Personally I don’t like IO but I can see how some loan officers manage to convince their customers with these selling points.

[SD Realtor]

Actually Kev there are plenty of IO loans where after the 10 year period the rate does not reset. Your interest rate is the same thus the interest component does not change. You simply start paying the amortization which is at a 30 year rate but the payment is accelerated because you are paying it over 10 years.You have not backend loaded, your rate doesn’t reset, your balance has not changed. Now don’t get me wrong, your typical IO loan of this nature will cost you maybe 3/8 more then the comparitive 30 year fixed rate where you pay the 30 year amortization over a true 30 year period. Like I said, it all depends on the individual situation.

****

Once more as I said, the loans are not for everyone. However they can be useful for alot of people.

SD Realtor

[SD Realtor]

Actually Kev there are plenty of IO loans where after the 10 year period the rate does not reset. Your interest rate is the same thus the interest component does not change. You simply start paying the amortization which is at a 30 year rate but the payment is accelerated because you are paying it over 10 years.You have not backend loaded, your rate doesn’t reset, your balance has not changed. Now don’t get me wrong, your typical IO loan of this nature will cost you maybe 3/8 more then the comparitive 30 year fixed rate where you pay the 30 year amortization over a true 30 year period. Like I said, it all depends on the individual situation.

****

Once more as I said, the loans are not for everyone. However they can be useful for alot of people.

SD Realtor

[cr]

I’m a novice at ths stuff but from what I hear in talking to people there are at least 2 reasons people go IO, both with a big potential to backfire:

1. You expect a significant riase before or right at the time rates reset. The problem here is obvious: what if you don’t get a raise, or worse you get laid off? And this really doesn’t consider the Fed rate increases.

2. I will just sell my house once the rates go up. This implies the buyer expects not to be able to afford it, and can just sell. The problem is the mindset at the time was prices would double every few years. We know that passed so now people may be forced to sell at a loss, because everyone else w/ an IO had the same idea and wants to sell too.

Throw in the tightened loan standards, leading to less buyers, declining prices, and rising defaults, IO loans from the last 3-4 years are a recipe for disaster, unless you find a sucker for a buyer or doubled your salary in the last 3 years.

[cr]

I’m a novice at ths stuff but from what I hear in talking to people there are at least 2 reasons people go IO, both with a big potential to backfire:

1. You expect a significant riase before or right at the time rates reset. The problem here is obvious: what if you don’t get a raise, or worse you get laid off? And this really doesn’t consider the Fed rate increases.

2. I will just sell my house once the rates go up. This implies the buyer expects not to be able to afford it, and can just sell. The problem is the mindset at the time was prices would double every few years. We know that passed so now people may be forced to sell at a loss, because everyone else w/ an IO had the same idea and wants to sell too.

Throw in the tightened loan standards, leading to less buyers, declining prices, and rising defaults, IO loans from the last 3-4 years are a recipe for disaster, unless you find a sucker for a buyer or doubled your salary in the last 3 years.

[Cow_tipping]

Interest only mortgage – Its related to this other thread.
http://piggington.com/bank_sells_house_with_corpse
Cool.
Cow_tipping.

[Cow_tipping]

Interest only mortgage – Its related to this other thread.
http://piggington.com/bank_sells_house_with_corpse
Cool.
Cow_tipping.

[meadandale]

@coop

I agree with item 2 uncategorically. However, item 1 needs to have a caveat. First, there is no rate reset on a fixed rate loan. I consider an IO option on a fixed rate loan much less risky than on an ARM. Second, the expectation of a raise that never comes is only an issue if you’ve overbought and are overextended on your payments (where you really NEED the reduced payment in order to be able to keep afloat).

[meadandale]

@coop

I agree with item 2 uncategorically. However, item 1 needs to have a caveat. First, there is no rate reset on a fixed rate loan. I consider an IO option on a fixed rate loan much less risky than on an ARM. Second, the expectation of a raise that never comes is only an issue if you’ve overbought and are overextended on your payments (where you really NEED the reduced payment in order to be able to keep afloat).

[NotCranky]

RusSubmitted by AK on May 17, 2007 – 10:17am.
“Liquidity is nice, but I doubt the average person can earn a consistent after-tax return exceeding the interest on an IO mortgage.”

You are 100% correct. One can be average in every other way but for a certain set of econmic factors , not be average in the ability to make a large capital gain fairly risk free in a period of time short enough not to sweat the interest only loans. Basic business acumen has to be applied.
I will give you an example. Average guy has home long term, doesn’t borrow against it …Bubble comes along and because this person pays attention to pigginton say year 2018( who cares about the year). Guy says wow I can get an “interest only” (favorable to cashflow),shop for a property build a house on it sell one of them off to pay some or all loans and have made equity gain . Just a very simplistic example. Could have bought rentals in other markets, opened a business pretty much anything that aligns with the investor,s strengths. I personally think the plan should have an exit strategy but that might not always be neccesary. It is not much of a gamble.
People that are not average(wealth) probably don’t need to raise capital this way so it is designed for the right kind of average person. IMHO

[NotCranky]

RusSubmitted by AK on May 17, 2007 – 10:17am.
“Liquidity is nice, but I doubt the average person can earn a consistent after-tax return exceeding the interest on an IO mortgage.”

You are 100% correct. One can be average in every other way but for a certain set of econmic factors , not be average in the ability to make a large capital gain fairly risk free in a period of time short enough not to sweat the interest only loans. Basic business acumen has to be applied.
I will give you an example. Average guy has home long term, doesn’t borrow against it …Bubble comes along and because this person pays attention to pigginton say year 2018( who cares about the year). Guy says wow I can get an “interest only” (favorable to cashflow),shop for a property build a house on it sell one of them off to pay some or all loans and have made equity gain . Just a very simplistic example. Could have bought rentals in other markets, opened a business pretty much anything that aligns with the investor,s strengths. I personally think the plan should have an exit strategy but that might not always be neccesary. It is not much of a gamble.
People that are not average(wealth) probably don’t need to raise capital this way so it is designed for the right kind of average person. IMHO

[little lady]

“Not sure why everyone has conveniently overlooked the fact that most people don’t own a home for 30 years or even for 10 years.”

I always hear this, but infact every neighborhood I have lived in, has had the same neighbors for YEARS. I find this hard to believe.

[little lady]

“Not sure why everyone has conveniently overlooked the fact that most people don’t own a home for 30 years or even for 10 years.”

I always hear this, but infact every neighborhood I have lived in, has had the same neighbors for YEARS. I find this hard to believe.

[kev374]

I always hear this, but infact every neighborhood I have lived in, has had the same neighbors for YEARS. I find this hard to believe

Probably right. It’s prohibitively expensive to sell a house/move at the current price points, transaction costs and increased tax basis will not make it possible for most.

I know a few friends who want a bigger place but are STUCK in their homes because they cannot afford to upgrade even though they bought 7-10yrs ago.

[Author]

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