Words aren't cheap when buying home

COLLEGE STATION - Home-buying is a complicated business. Not only does it require a lot of time, money and form-signing, but also learning a new vocabulary, said an expert from Texas Cooperative Extension.

Knowing these terms could be worth thousands of dollars, said Nancy Granovsky, Extension family economics specialist. Granovsky quoted an article in the Wall Street Journal, which stated some of this vocabulary is connected to new styles of mortgages designed to "snare borrowers seeking lower monthly payments." ("Lenders Retool Long-Term Mortgages," by Ruth Simon, June 16, 2005, page D1) Seeking lower monthly payments isn't necessarily a bad thing, Granovsky said, but borrowers need to know the long-term consequences of these new mortgages before they sign on the dotted line. Take, for example, interest-only loans. With these loans, the borrower literally pays only the interest, Granovsky said.

"You aren't really paying the principal you owe," said Granovsky. "People who do that (take out interest-only loans) are banking on the value of the property to go up so they can cover what they owe by the growing value of the house. That may or may not happen."

Interest-only loans are usually written on 30-year fixed rate mortgages, Granovsky said. For the first 10 to 15 years of the loan, the borrower pays only the interest on the loan.

"You have low payments because you're not paying off the principal," said Granovsky.

However, once that time is up, the borrower not only has to keep on paying the interest, he or she also has to start paying off the principal too. That means an enormous jump in monthly mortgage payments, Granovsky said.

"People believe they can make money if they are in an escalating market," Granovsky said. "That's not always the case. Real estate is not always as `liquid' as other investments."

For example, she said, if a buyer uses an interest-only loan to purchase a house worth $200,000, that person could make a profit only if he or she sells the house for more than $200,000 while still paying only the interest.

However, Granovsky said, "If that $200,000 house declines in value and they sell the house, they're still going to owe $200,000."

To explain it another way, she said, "In `heated' real estate markets there is great interest in interest-only mortgages, but also concern that if the bottom falls out, (buyers) are still left with debt obligations and ... (houses) may be difficult to resell."

These kinds of loan are "a gamble," said Granovsky. And so are adjustable rate mortgages, often called ARMs. These mortgages carry a rate of interest that varies, according to the Wall Street Journal. The article describes variations of adjustable rate mortgages including: short-term ARMs, which carry interest rates that can vary from month to month; hybrid ARMs, which carry a fixed interest rate for a specified length of time before the interest starts adjusting annually; and option ARMs, which have introductory interest rates as low as one percent and multiple payment options.

Both interest-only loans and adjustable rate mortgages are popular, though, especially in light of increasing prices for homes, Granovsky said.

Information from the Mortgage Bankers Association said nearly two-thirds of the new mortgages issued in the second half of last year were adjustable rate mortgages and interest-only mortgages, according to the Wall Street Journal article. And the low monthly payments might look fantastic at first, Granovsky said. But, she warned, "they could lead to a lot of foreclosures if a lot of people don't have the money to repay their debt."

One way lending institutions are trying out to help keep those monthly payments lower is the new 40-year mortgage, Granovsky said. But even with lower monthly payments, these mortgages can be more expensive over the long term because of the longer payoff time.

New 20-20 mortgages are a type of 40-year mortgage that has a lower rate of interest for the first 20 years of the loan and a higher one for the second, she said.

"A house is a big-ticket item," Granovsky said. "Is a house a shelter or is a house an investment - or it is both?" Answering that question is a process each buyer must face.

"Risk is involved (in buying a home and choosing a mortgage), but risk is involved in all financial transactions," she said. "If you get involved (in home buying) you need to know what the risks are and know the pros and cons; compare the costs and the benefits; what it looks like now and what it's going to look like then, especially under the `worse case scenarios' of rising interest rates and/or eroding real estate values."

What are people saying about mortgages today:

Rates on 30-year mortgages edged down last week to a seven-month low. Mortgage-giant Freddie Mac reported Thursday that 30-year, fixed-rate mortgages fell to 6.3 percent, down slightly from 6.31 percent two weeks ago. It put rates at the lowest level since they were at 6.24 percent the first week of March.

Bank of Hawaii, Central Pacific Bank, Territorial Savings Bank and Wells Fargo Home Mortgages all cut their 30-year mortgage rates to 5.75 percent this week.

Most people think of a mortgage as a means to an end. After all, you buy a house, not a home loan. But a mortgage is much more than the path to homeownership. It is a financial instrument that must be managed, just like any other financial investment.