The homeowner must only pay the interest on the mortgage for a certain number of years. After that, a homeowner either has to pay the loan off completely or begin paying on principal and interest each month. If the interest rate on the loan goes up, the monthly payment of both principal and interest may be too much for the homeowner to handle. If the value of the house falls, the homeowner may be stuck owing more on the loan than the house is worth.
Generally speaking, interest-only home loans are suited for borrowers who expect their incomes to rise quickly in the future.
Option Adjustable-rate mortgage
A homeowner can decide how much to pay from month to month. One of the options can be a minimum payment that does not cover the full amount of interest that is due that month. The unpaid interest is added to the loan balance. If too much interest is deferred, it could be overwhelming because the borrower will be paying interest on a higher loan amount. If house prices fall, the homeowner could end up owing more than the value of the house.
Option arms can make sense for sophisticated borrowers who are financially sound but have lumpy incomes from month to month, such as people who rely on commissions or bonuses.
Piggy back mortgages
A second loan is stacked on top of the primary mortgage loan. Experts say one of the primary reasons for going this route is to avoid paying private mortgage insurance. Traditionally, homeowners who put less than 20 percent down on a property have to pay for the private insurance. The interest on the second loan is tax deductible. The payments for private mortgage insurance are not. One other reason to piggy back loans is to avoid paying the higher rates that come with jumbo mortgages of $359,650 and up.
Experts say it is possible to combine two or even three mortgages so that no down payment is made. Borrowing 100 percent of the value of the home can be risky if interest rates rise or the value of the house drops.
40-year fixed rate mortgages
By stretching out payments over 40 years, a homeowner would have a smaller monthly payment. But interest expenses over the life of the loan is going to be more expensive than a traditional 30-year-fixed rate mortgage. The homeowner also will be building equity more slowly with the 40-year loan.
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