Fixed Rate vs. Interest Only Home Loans


June 7, 2005 LOS ANGELES -- Understanding the most rudimentary facets of an interest only home loan is important these days when choosing the ideal mortgage program. Many of us hear about the benefits of financing a home on an interest-only basis, but we're told that some never quite see the possible pitfalls until after the ink is dry. For this reason we will give you a nickel's worth of free explanation of the interest only home loan and compare it against a traditional fixed interest rate finance.

Interest only loans are unlike in the fact that they do not require payment be attributed toward the principal, or actual amount borrowed, for the first 3 to 7 years of the chronology of your loan. By contrast, a typical 30-year fixed interest rate mortgage works on amortization from the onset of the loan term, and continues throughout the duration of the loan.

Borrowers opting for interest only loans should realize that
although payments will be lower in the first three to seven years, they will be
inflated significantly at the end of the interest-only term.

Now compare this with a 30-year fixed rate home loan. Conventional loans of this nature will see a higher payment in the beginning of their loan, but the amount of such will decrease over the course of the loan rather than bubble upwards, as we see with the interest only variety.

Comparison of these two loan types on a base-level is smart. Depending on the market value of homes in your area, deciding between the fixed, or interest-only mortgage requires you aggregate more consideration.

Below we explain by example:
Homes in the Los Angeles, CA market are of substantive cost, so in order to fund a home in this area most buyers are required to secure large loans in order to close a deal. Assume a home being purchased in this area requires the borrower to obtain a $500,000 loan. The payment for a loan of this size with a conventional 30-year fixed interest rate / APR of 5.500 would run about $2900.00 monthly for 360 months, give or take. By way of comparison we can demonstrate that that an interest-only loan carrying a fixed rate of 5 percent for the first five years require monthly payments of just under $2,300, roughly, during the first 60 months. After this gestation period, the mortgage payment would climb for the remainder of the term to around $3,000. For most of us, this large of a jump in payments is a tough pill to swallow.

Try calculating interest only home loan payments at our interest-only mortgage calculator page.

Carefully consider how long you plan to occupy, or keep a residence when comparing fixed against interest only loans. It is advisable to look carefully at pre-payment penalties, etc when weighing the benefits of both types of loans. - By Nolan Voight, Mortgage and Home Lending Columnist.


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