How does a financial institution stand to gain by giving out bad "interest only" loans?

Answer 1

A quick trip to bankruptcy court.

Answer 2

There are a couple of ways that banks make money off of these interest only loans.

Many of the interest only loans are not defaulted on, and often once the home price has increased, the borrowers will switch over to more traditional loans. There is a real asset (generally a house) that backs up the loan, which the bank will receive if the borrower defaults. These types of loans are offered to those who would not otherwise be able to afford a home, so these loans actually expand the size of the market that the banks can loan to.

These are especially popular where home prices are going up, and so even if the borrower defaults, the bank will get an asset that is worth more than when they made the initial loan.

So the bank makes money offering a loan because it can make more loans, the bad loans are covered by hard assets, limiting their losses, and higher housing values make the cost of any defaults to lenders much lower than in a flat market.

Answer 3

A financial institution does not benefit from any type of bad loan, including interest only loans.

However, interest only loans generally given to well qualified people are very lucrative for financial institutions. The interest only loans gained popularity as many investors were anxious to cash in on the housing boom of 2000 to 2005. These investors were looking for maximum leverage at the lowest possible cost so they could purchase and quickly resale in rapidly appreciating housing market. At the time, the banks were flush with dollars owing to a FED policy that made short term money available at interest rates as low as one percent. All that is past history as the housing market approaches a 2 year slump and the FED increase the rate to over 5 percent.

Most of the investors using the interest only loan did well and paid off the loan when they cashed out. However, some of the investors had poor timing and were forced to either hold onto the now depreciating properties or reneging on their loan commitments. These people represent the majority of the interest only loans that went bad.

Answer 4

They gain because the money they loan out is created out of nothing by "Fractional Reserve Banking" and the loan is secured with the property the borrower is borrowing the money to be able to buy, and if/when the borrower can't afford to pay back the loan, the financial institution then takes the property, having lost no money because the money never really existed in the first place.

The side effect of the banks creating money out of nothing is inflation, because more money in circulation makes the existing money worthless.

In the nature of the system, there is never enough money circulating in society for everyone to be able to pay their loans back including the interest, so unless the banks continue to issue more and more loans to cover the interest payments of the existing ones, a certain percentage of people can't afford to pay theirs back and the financial institutions take the property.

This is accentuated by the (privately owned) Central Bank controlled "Business Cycle" where loans are made cheap and easy for a time, then the money circulating in society is artificially tightened so more people can't repay their loans and go bankrupt. The banks take the property and the cycle then repeats. It is purposely done by the financial institutions in order to enslave the working class.

In the current system, taken to its final conclusion, the bankers end-up owning everything and everyone else is servant to them.