The woman, age 52, was a schoolteacher. Her husband, 53, was a newspaper reporter and a long-time friend. Their night out, a casual dinner in a Mexican restaurant, was spiced with a conversation about the costs of having two children in college.
"Why should we look at refinancing and making a minimum payment," the man said. "In fact, we should see if there is an interest-only loan."
I’ve said it before: I’m usually a pay-it-off kind of guy when it comes to home loans. I believe there is a huge benefit — financial and philosophical — to owning the roof over your head.
And, many financial planners will tell you that consumers simply don’t really focus on stashing away retirement dollars until the loan on the family home is paid in full.
However, the reality is most families need disposable income — now. The cost of raising kids, education and helping mom and dad in their later years is a huge strain on the monthly domestic checkbook. What good is home appreciation when you need that cushion today, not down the road when you sell?
I am not advocating spending your home equity just because it’s available.
To the contrary, too many people abuse that cushion and find their only real asset greatly reduced when they need it most. However, making a minimum payment during a cash-strapped time often can reduce household stress while freeing up needed bucks.
That’s why interest-only home loans make sense in a lot of cases. In fact, many lenders have developed a five-year, interest-only loan, allowing customers to make lower payments each month than those brought by a conventional amortized loan.
The amount of principal paid in the early years of a loan is miniscule. For a home buyer reviewing the first annual mortgage analysis statement, it often can be under whelming.
"I’ve been paying all year and only have made this much of a dent?"
I remember my father telling me his dad never heard of an amortization schedule. My grandfather had an interest-only loan on his home in the 1920s — and so did most of his neighbors. Once the loan term was up, they refinanced and started again. The Great Depression changed all that, and lenders have requested a little bit of principal monthly ever since.
Why would lenders want to offer an interest only product now? Let’s take a look at what’s happening around us. For example, according to the Office of Federal Housing Enterprise Oversight, homes are appreciating at a rate of 10 percent or more each year in 49 of the nation’s 180 metropolitan markets. Even at half that rate of appreciation, a lender is going to have a very comfortable stake in the property if the borrower falls behind on the payments.
Appreciation has a way of washing all housing mistakes — and allowing for new, creative programs. If interest rates were early-1980s sky high and homes were sitting on the market in most major metros for months, do you really think lenders would support a program that would not require customers to repay at least a portion of the amount borrowed?
Remember, to refinance a mortgage — even to an interest-only loan — you have to go through closing a second time and pay for many of the same reports and fees again. You might be able to get a break on some of the costs, depending on your lender, program and when you last refinanced.
Homeowners often resent the costs, especially if they simply want to reduce their interest rate. Paying for title insurance again is one of their biggest gripes. But a new title policy must be done each time a property is sold or refinanced, even if an identical search was done a few months ago. This is to ensure that no new liens, such as home-equity loans, have been placed against the property.
From a financial point of view, paying off your home sooner with a higher monthly payment tends to limit other opportunities — and that’s coming for a pay-it-off kind of guy. But if paying off your home loan would make you saner than if you had not done it, then by all means do it.
If you are thinking about another refinancing, weigh all costs and rates carefully before deciding. Make sure you understand "no fee" programs.
Right now, the interest-only loan appears to be a very safe play. With the mortgage industry becoming more competitive every week, the push to pique the interest of another segment of borrowers is fierce.
However, never take home appreciation for granted. If you need to rely on an interest-only option to get your through a rough period, fine. But down the road, get back on track and make payments that include principle and interest portions. That discipline will lead you to a larger nest egg.
Tom Kelly, hosts "Real Estate Today" from 11 a.m. to noon Sundays on 710 KIRO-AM. Send questions, comments and concerns to news@tomkelly.com
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