Evaluating the Equity Effect

A mortgage payment consists of two components: principal and interest. Principal is the amount that reduces the outstanding loan balance. Interest is the cost for using the borrowed money. It is important to have a mortgage payment that you can afford and also reduces the principal loan balance.

Recently, interest only mortgages have become popular. While this option does offer a lower payment, it does not reduce the principal loan balance. As a result, there are several important points to keep in mind when considering an interest only loan:

  • If you don't make principal payments, you lose the ability to increase your home equity by decreasing your loan's outstanding balance.
  • When the interest only period expires, your payment may increase substantially because the remaining balance is paid over a shorter time period. For example, if you have a 30-year mortgage with the first 10 years consisting of interest only payments, your principal repayment will be amortized over the remaining 20 years.
  • If property values decline, you could end up owing more than your home is worth

In most cases, Interest Only Mortgages or Option ARM's (an Adjustable Rate Mortgage with an option for reduced monthly payments) loans are for consumers who plan on refinancing in the near future. If you have questions about your current loan structure, our experienced loan officers are always available to provide answers.

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