In the above example, a borrower would lose the minimum payment option in three to five years if they chose to pay the minimum payment each month. At that point the loan would recast and they'd likely find themselves in a big hole with an unmanageable mortgage payment.
This wasn't a problem in the last few years as house values increased year after year at a higher rate than associated interest rates, but things have changed. Values now are either stagnant or dipping. There isn’t an easy exit strategy anymore. Those looking to refinance or sell may have to bring money to the table, an option many of these homeowners simply don’t have.
Many might ask why these mortgages were ever created and where they went wrong. The simple truth is these mortgages were originally created as a means of flexibility, not a way of avoiding your actual monthly mortgage payment.
In a perfect world, a borrower would pay the minimum payment one month, then the fully indexed rate another month, as needed. Typically, borrowers with little self-control began exploiting the system by paying the bare minimum every month. At the same time, brokers and loan officers began pushing these loans hard as banks offered rebates of up to 3.5% on the back-end.
Ultimately the borrower is responsible for his or her own fate, but the misdirection from brokers, loan officers, and banks should be taken into account as well. More documentation should be available to those selling these loans and those buying into these programs.
The ironic part of all this is that the pick-a-pay mortgage program extended the refinance and purchase boom longer than it could or should have gone. Once these loans recast in the next few years, most homeowners will likely refinance into a fixed rate mortgage, essentially creating a new mortgage boom.
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