Real Estate Financing and Investing/Latest Mortgage Options

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With real-estate prices shooting persistently upward, first-time buyers are finding it tougher to get in the game. Who ever heard of a $500,000 starter home? Lenders have responded by devising some novel loan structures, mostly designed to cut payments in the early years. While many of these products make pricey homes available to people who otherwise couldn't afford them, they can be burdened with risk. Here are some of the latest mortgage options.

40-Year Mortgage. These products are similar to 30-year fixed-rate mortgages, except that borrowers stretch the payments out for an extra 10 years. Lenders, however, charge a slightly higher interest rate, up to half a percentage point. This type of loan is good for first-time buyers who don`t plan on staying in the house for more than a few years, and are looking for lower monthly payments.

  • Benefits: A 40-year mortgage offers lower monthly payments than a 30-year loan. On a $300,000 mortgage at, say, 6% for a 30-year and 6.25% for a 40-year a home buyer could save nearly $35 each month.
  • Drawbacks: By extending the length of the mortgage, the borrower increases the amount of interest paid over the life of the loan. On that $300,000 mortgage, it would mean an additional $170,030.42.

Negative Amortization Mortgage. This interest-only product allows buyers to pay less than the full amount of interest necessary to cover the costs of the mortgage. The difference between the full amount and the amount paid each month is added to the balance of the loan. This loan is best for borrowers with large cash reserves who want the flexibility of lower payments during certain parts of the year but plan to pay off loans in large chunks during other parts.

  • Benefits: An even smaller monthly payment than an interest-only mortgage in the first few years.
  • Drawbacks: Should housing prices stagnate or fall, buyers would find themselves in "negative equity," meaning they would owe money to the lender if they sold their homes.

Flex-ARM Mortgage. Each month the lender sends the borrower a payment coupon that calculates four payment options: negative amortization, interest only, 30-year fixed and 20-year fixed. The homeowner decides how much to pay. (Some mortgages offer only an interest-only and a 30-year-fixed option.) This structure is recommended for people who like options and have large cash reserves for when payments increase in the later portion of the loan.

  • Benefits: The bank does all the thinking. Each month it recalculates the balance and tells the borrower how much he or she would owe under different scenarios.
  • Drawbacks: Borrowers could end up owing more on the mortgage than they can fetch for their homes.

Piggyback Mortgage. This is really two mortgages, also known as a combo loan. The first covers 80% of the property`s value. The second, with a slightly higher rate, covers the remaining balance. Young professionals with high salaries but little savings would benefit most from this loan type.

  • Benefits: In most cases, homeowners save money since the second loan allows them to avoid paying costly private-mortgage insurance when buying a home with less than a 20% down payment.
  • Drawbacks: Rates on the second mortgage are higher. And rates can vary greatly depending on credit scores. Also, since the borrower has little equity in the home, should its value fall when it is time to sell, the borrower would need to pay the difference in cash.

103s and l07s. These loans have no down payment and allow people to borrow 3% to 7% more than the house is worth. They are best for people with large cash reserves who prefer to invest in, say, the stock market rather than tying up assets in real estate.

  • Benefits: Minimal up-front costs.
  • Drawbacks: Rates tend to be high. And borrowers run the risk of negative equity if the house loses value.

No-Doc or Low-Doc Loan. This loan let you borrow without proving the usual income requirements. Most lenders expect you to have a credit score of at least 620.

  • Benefits: The borrower does not earn enough money to qualify for a normal loan but anticipates no trouble making the mortgage payments.
  • Drawbacks: The rate may be one-half to three points higher than an equivalent full-doc loan.