Mortgage Products: The Interest Only Loan
Many of today's consumers are financing their homes with
interest only loans. Not very many of those consumers are aware
that some of the grandparents, or great-grandparents also
financed their homes with an interest only loan. I myself wasn't
aware that this type of loan existed prior to the mortgage
market of today. But, we weren't the first to use the interest
only concept. During the Roaring 20s, many of middle-America's
citizens chose to finance their homes with interest only loans.
Why did they not remain popular, and does this tell us anything
about the market of today? Well, let's take a moment to examine
the interest only loan of the 20s compared to the loan of today,
and maybe we can become better educated shoppers.
The interest only loan of the 20s was a pure product. This means
that the mortgages were interest only for the life of the loan.
At the end of the mortgage period, nothing had been paid against
the principal. Only the interest payments against the principal
borrowed had been paid. This worked really well until the crash
of the stock market and the Depression. At this point, many of
the families that had lived in homes paying only the interest
due were forced from their homes when there was no money and no
jobs. Many lending institutions were left with foreclosed
mortgages, and no cash. The traditional lending institutions at
this point, simply shelved the interest only loan, in favor of
more equitable lending; in other words, they preferred to loan
money for a mortgage that would build equity. This gave the
homeowner something comparable to savings, and the banker a
lower outstanding mortgage balance.
That is a lesson we should carry forth when lending today, and
using the interest only option. Most of the products offered
today do carry a limit for the term of the interest only
element. Generally, if the loan is a 30 year loan, no more than
half can be used towards the interest only option. At least
someone has exercised some level of judgment in providing for a
cap, or limit to the interest only term.
In today's society, everything we see encourages instant
gratification, and home mortgages are no different. Instead of
sending a message that says, if you want more house, you need
more money, we send the message that it's ok to borrow beyond
your means. Now, in all fairness, there are some mortgage
shoppers that fit the description of the candidate for the
interest only loan. Investors, and candidates who do not intend
to keep a home for longer than 5 years, do benefit from the
interest only loan option. But for the typical homeowner, the
interest only mortgage only prolongs the equity building
process, and may often put the borrower in a situation where he
or she cannot actually afford the payment when the principal and
interest period begin.
Thanks to the booming real estate market, the interest only loan
option, and the expansion of the mortgage product market, the
increase in purchasing power has enabled many prospective
homeowners to actually make a dream a reality. But at some
point, the market will cease to boom, and the mortgage market
will cease to expand. Will the consumer that purchased the
interest only loan be able to afford the consequences, should
the home suddenly not be worth the original loan amount? Let's
hope for the sake of the unwary homeowner, this is a situation
we do not soon encounter. And, for the most part, I don't
believe we'll see this any time soon. Thanks to the natural
disasters along the gulf coast, and the continued demand for
real estate and building materials, the housing prices we're
currently experiencing, along with the growth we've seen for the
past couple of years, should continue at the same rate.
There are other, more stable loan products available, but these
products don't provide the kind of return for the mortgage
lender that the interest only loans do. They also don't pose the
risk the interest only loans pose. The interest rates, however,
are very competitive on these loans, and I don't' look for the
general public to decide in favor of safety over savings. After
all, nothing ventured, nothing gained.