In my situation is an interest only mortgage right for me?

Question

I own a home, brought it in 12/04 (2 years to the date) for $242,000, the Appraised Value as it stands is $305,000 so it has appriciated $63000 in 2 years. Our current mortgage is a 30 yr fixed rate for 5.875%. We are looking into getting a 3 year interest only loan with $30,000 out to finish our basement, and pay off our car, and credit card bills. With everything figured out we will be saving around $200.00 per month to invest or save, and adding 800 square feet of liveable space, which increases our value even more. I am having 2nd thoughts about the interest only part. We are at this time planning on selling in the next 2-2.5 years to try to make some money. What should we do?

My Current P&I is 1470, The Interest only rate is 6.85 with a payment of 1565. I would see amonthly savings from my car and a credit card

We cannot afford to do an equity line for the 30K we are getting quotes of $400 more p/m with a variable rate. On a second we are getting rates of like 9-10%

Answer 1

You neglected to mention the interest rate on your new loan. Is that because the broker isn't giving you a clear answer on it?

And I don't know what you owe on your existing mortgage, cars and credit cards, so I can't tell what your new payments would be either.

What are the closing costs?

What I do know is this: You sound like you will be financing close to 100% of the value of your home, at it's present value. If you are getting one loan, it's likely to be a "sub-prime" type of loan, which in almost every case would have a pre-payment penalty. The penalty period almost always is as long as the fixed-rate period. So, if you sell in 2-2.5 years, would the penalty apply? Sometimes they are required only if you refinance and not if you sell, sometimes if you sell also.

You have a good fixed rate loan right now. If you were to take out an equity loan, you might pay little to zero in closing costs, which could save you $7-10,000 right there. Which can easily offset the $200/mo. you're saving monthly for the next two years, even if you just put that cash in the bank and used it to pay the payments!

It really feels like you are being led down the wrong path. It's impossible to know for sure with the limited information here, but I'm 98% sure this is a bad idea, one that pays the mortgage broker and gives you little real benefit.

You are welcome to email me through here, I'd be happy to run through the fine points with you. Free expert advice at no cost to you, I'll give you my completely unbiased opinion, or how I usually put it, "If you were my mother, here's what you should do".

Answer 2

Having an interest only loan is like renting from the bank, but with all the obligations of home ownership. That $200 dollars you would be "saving" is actually money lost because you would no longer be building equity. Considering that you currently have equity, you might consider getting a home equity line or second mortgage, and using the money to do the basement and pay off the car and credit cards bills. The monthly payments that were going to the car and credit cards could be used to service the second mortgage. Please consider this, how did you arrive at your current economical standing? That is to say would there be a possibility that after refinancing, the credit cards would be used to the point that making the payments on everything would be more costly, or impossible? Lastly, since you are considering not keeping your home for more than a few years, make sure that there is no pre-payment penalty. I know a guy that refinanced his home and it cost him more in hidden charges than he is going to save over the life of the new loan on account of the fact that the original lender hit him with pre-payment penalties

Answer 3

An interest rate of 5.87% is very good. You have $63,000 in equity. This happened to me too. You are allowed to have two mortgages on your home. Right now you are at a good rate keep it. There shouldn't be a penalty when you go to sell. But I would talk to your mortgage company about the second. It is based in the state that you are in. Get a second loan and get your closing cost subtracted from equity along with car payment and credit cards. As for the basement you can get that wrapped in too but since you are moving in two years why don't you invest that money into your new home. No matter what you have the square footage and it will appraise as such. The market is unpredictable. Think also in 2 years the presidency will change and where will the market stand?

Answer 4

I personally wouldn't do it.

You are essentially taking equity out of your house to pay your credit cards and car. You will be adding value to your house by finishing the basement, but the chances are the money you put in will be less than the money you get out of it upon closing.

If you change your mind on selling your house or something happens that you can't, you will need to refinance again (the case for interest only loans, 3 or 5 year balloon). At this point you will most likely need another car and there is a chance (I don't know your spending habits) you will have more credit card debt. At this point you would have a much higher mortgage on a house with very little (if any) equity, a car payment, and credit card debt. Your financial situation would now be much worse. This is worst case scenario but something to consider when making major financial decisions.

Answer 5

If you're planning to sell, why are you investing so much money now? VERY FEW home improvements get the money back, dollar for dollar. (An exception is adding a half bath to a home with only one bathroom.)

Having an interest only loan means you still owe all that money at the time you sell. So....what's the point again? You're not actually "paying off" any of your cars/credit cards. Why not just continue paying as you are and then in 2.5 years, when you sell, you'll OWE LESS and thus pocket that difference (along with the increase in value if the market goes up) and then by then you should have your car paid off anyway?

Answer 6

If you can afford the payments without going interest only, Then getting an interest only loan makes little sense. Rates for for 5 or 7 year fixed loans are lower than your current fixed loan so the increase in payment will not be much even with the 30K out.You will most likely get a higher interest rate on an interest only loan. You will get a larger lump sum when you sell the house, and if your plans change, you are in a better loan.

Answer 7

Trust me when you look at the first 8 or 10 years of your mortgage payments, they are 98% interest only anyway.

I'm not sure if you are considering refinancing or getting an equity line. The equity line would probably be a good Idea for what you are planning to do since you have enough equity available. Check your own bank.

Good Luck.

Answer 8

It depends on the terms. It is good to pay off your car because your mortgage interest is tax deductable. However, if you got a low or 0% interest rate on your car, you should keep the car loan.

A finished basement doesn't add that much value to your home. Usually about $5000. It tends to make your home more desireable when it sells but all things equal, people won;t pay that much more for a fiished basement.

Answer 9

I would strongly advise you not to, you already have a good interest rate and your mortgage is not huge either. I think it might be better to take out a personal loan for the basement imo. Why pay for the basement, your car and credit card for so many years rolled into your mortgage.

Listen to your intuition. Sure you'll be saving $200 a month, but it is going to cost you a lot more than you are saving.

Answer 10

Talk to a lender about a 2nd mortgage, as opposed to a Home Equity Line (which appears to be the interest only loan you describe).