Making Sense Of Innovative Mortgages

New kinds of mortgages are making it possible for some consumers to become homeowners for the first time. However, these mortgages come with risks.

Traditional mortgages require that each month you pay back some of the money you borrowed (the principal) plus the interest on that money. The principal you owe on your mortgage decreases over the term of the loan.

In contrast, what's known as an interest-only or I-O payment plan allows you to pay only the interest for a specified number of years. After that, you must repay both the principal and the interest.

Most mortgages that offer an I-O payment plan have adjustable interest rates. Having an adjustable-rate mortgage, or ARM, means that the interest rate and monthly payment will change over the term of the loan.

When the I-O period ends, your payments could go up a lot-by 50 percent or more.

Another innovation in mortgages is a payment-option ARM. This is an ARM that allows you to choose among several payment options each month. The options typically include a traditional payment of principal and interest, an interest-only payment or a minimum (limited) payment.

The risk with making minimum payments is that you will be adding to the amount you owe. Your future payments could double or even triple.

However, an I-O mortgage payment or a payment-option ARM might be right for you if you have irregular income-such as commissions or seasonal earnings-and want the flexibility of making I-O or payment-option ARM minimum payments during low-income periods and larger payments during higher-income periods.

Interest-only or option ARM minimum payments may be risky if you won't be able to afford the higher monthly payments in the future.

If you are not sure that an I-O mortgage payment or a payment-option ARM makes sense for you, there are several other alternatives you could consider. For instance, find out if you qualify for a community housing program that offers lower interest rates or reduced fees for first-time homebuyers, making homeownership more affordable.