The word “candidate” derives from the word “candid,” and politicians running for office this year have learned that voters prefer frank talk, not a sales pitch. The same is true for homeowners shopping for a mortgage. As we prepare for springtime — which is historically the best time to buy a home — it is appropriate to talk about ways to weed out the hype about exotic residential mortgages in favor of old-fashioned fixed rate loans.
The most recent bull market in real estate was artificially inflated by high-risk loans that encouraged consumers to leverage themselves to the max. The old-fashioned and reliable 30-year fixed rate mortgage — which helped to steadily grow this nation’s housing market for many decades — was upstaged by sexier, trendier, more exotic residential mortgages.
Too many borrowers got in over their heads and are now paying a painful price, and the current mortgage crisis has left consumers shell-shocked and wary.
Many bad loans were made to good people within the past few years, and millions of borrowers got stuck with ultra-fancy mortgages that were inappropriate, expensive and downright difficult to comprehend. To avoid that trap while getting the most from your mortgage dollars, it pays to learn as much as possible about various types of loans and refinancing programs. Choose those that help you grow equity in realistic, manageable ways.
Highly leveraged loans have their place in the market, but for most homebuyers, especially those who are not professional investors, such mortgages can be a financial nightmare. Especially in 2008, it is prudent to opt for a low-risk, no-frills mortgage with user-friendly terms and conditions that will not change with the weather but will help you safely withstand any economic climate or storm.
Here is the straight sauce on three of the most exotic — but more risky — home loans.
Suddenly hybrids came into fashion, playing upon the emotions of those who associate anything named “hybrid” with ecological responsibility and energy independence. And while these hybrid mortgages blended the best of several different types of loans into one convenient and user-controlled package, most were structured around a typical adjustable interest rate mortgage.
In today’s climate an adjustable rate is too volatile for most homeowners, and the other hybrid features are just more high-risk bells and whistles.
Then there were those dreaded no-money-down loans. We all want to get something for nothing, and no-money-down is a phrase that usually precedes a get-rich-quick sales pitch. In the real estate business “no down payment” is another way of saying “no equity.” If you buy without putting anything down and property values plummet you learn the meaning of “upside down.”
Scores of homeowners are “upside down” in their loans, or in other words they now owe more on their mortgages than their homes are worth. Pay the biggest down payment you can manage, because it is money in the bank.
Negative amortization loans
Another exotic loan that makes perennial comebacks is the negative amortization loan. With this kind of mortgage you can make monthly payments ad infinitum and still wind up owing more on your mortgage than you did when you first took out the loan. Negative amortization mortgages become wildly popular during every major real estate bull market and then go out of favor when homeowners experience the dark side of these equity-draining loans.
Each generation of Americans learns about negative amortization by first becoming enamoured by the concept and then learning to hate it. But even if you tell your children and grandchildren about them they probably will have to live to learn for themselves how risky these highly leveraged and suspiciously seductive loans can be.
By now most homeowners understand that adjustable rates and no-equity loans are dangerous in a rising interest rate environment, but a few years ago the ARM was marketed as the quickest path to wealth. For many it was, because they could use a low rate to buy property that was soon sold for fast profits. But in a slower market with the potential for unexpected rate hikes, avoid the ARM.
Stick with the retro reliability of a 30-year fixed rate mortgage, and enjoy an ideal combination of cheap rates, low risk, predictable payments and easy-to-understand terms. When applying for a loan, also specify that you want mortgages that do not contain prepayment clauses that penalize you for paying them off early.
Today’s interest rates are at historically low levels, with fixed rates hovering around 5.5 percent on 30-year fixed rate loans and at or below 5 percent on 15-year notes. Housing prices continue to be once-in-a-lifetime bargains, and 2008 will be a banner year for those who buy affordable homes with exceptionally attractive mortgage rates. Buy wisely, enjoy your home, and don’t worry about the mortgage meltdown drama.
— Jeff Hammerberg is the founder of GayRealEstate.com, the largest company in the nation catering to gay and lesbian home buyers and sellers. Access the site for more information on the housing market and in-depth resources.