The News on Interest Rate Only Mortgages
Most home loan payments are split into two when they get to the bank; a small part reduces the equity, and the balance pays the interest. This was how all mortgages were until now. But there exist now new kinds of mortgages that only pay the interest.
The borrower can pay whatever amount he wants, as long as he pays the minimum amount of the interest due each time. Even with more conventional home loans, you could pay additional on your mortgage to reduce the principal balance more quickly, but the idea here is to keep the monthly payment low.
The concept was believed to be a good one since rising housing prices guaranteed an increase in the value of the home. Normally, equity in a home is gained by a combination of paying off the loan value and increasing home values.
Now that real estate values are falling instead of rising, the logic of interest only loans has been called into question. There are cases where interest only loans are a good solution. This might be good option as long as it were a temporary situation.
Perhaps there is a situation where one partner is not employed or only working part time while he finishes school. Theoretically, once the other partner finishes school and starts working again, the mortgage payments can be increased to begin to lower the loan.
Another example may be where the homeowner has income that varies greatly from month to month. Maybe a project worker is only paid at the end of the project. When income is low, the lower payment (interest only) choice could be used and then when the windfall amount was received, higher payments could be made to pay down the loan.
But in any of these cases, the homeowners cannot count on the price of the home rising and should make sure principal payments are made. You want to make sure that you pay off some of the principle so that you will have some equity built in the home, since you can no longer count on real estate market increases to do so. If no equity has been paid down, the owner will have to raise additional money to pay off the mortgage when home values have not sufficiently increased.