If you have both a standard first mortgage and a home equity loan, you might wonder why they`re structured so differently.
With a fixed-rate mortgage, your payments for principal and interest never change. You might be able to pay extra principal, but those payments will do nothing for you in the short term. You still must make a full payment in the months ahead.
Home equity loans are different. The loans generally run for 15 years, but there`s no fixed payment. While you must pay the interest each month, many lenders don`t require you to pay anything on the principal for a number of years.
If you do make a large payment, the results are immediately reflected in your next payment. You owe less interest that month.
Why can`t you have such flexibility on a first mortgage? It would certainly come in handy for many homeowners:
– A young couple with a good double income could make large payments early on with plans to lower their monthly housing payments after they have a baby.
– A homeowner planning to quit a job and go into business for herself could make large payments on the mortgage, then move to interest-only payments in the early days of the business.
– A self-employed man with irregular income could vary payments accordingly.
Such flexible mortgages aren`t widely available, but a variation on the idea is offered by Merrill Lynch Credit Corp.
With a 25 to 30 percent down payment, Merrill Lynch`s Prime First mortgage allows you to pay interest only for 10 years on a 25-year mortgage. Or you can pay on the principal at whatever rate you choose during that time. If you sell the house before the 10 years is up, you pay off whatever principal remains. If you keep the house past the 10 years, the final 15 years of payments will be amortized like a traditional mortgage. The interest rate, with the hefty down payment, is about 7 percent right now and even lower for some customers, according to Charles Humm, a senior vice president with Merrill Lynch.
Other variations on this idea have been offerd by small community lenders in the past, according to Donna Callejon, a senior vice president with the big secondary market lender Fannie Mae.
For instance, she said, some mortgages came with a ”grace provision”
that allowed the homeowner to prepay three or four months and then skip payments altogether for the next three months.
”These typically were on old portfolios for a certain set of borrowers, like teachers,” Callejon said.
Even today, she said, ”there are still a fair number of our customers who originate simple interest mortgages and we buy them for our portfolio. But it`s a very, very small percentage.”
David Olson, a mortgage research specialist in Columbia, Md., said if such simple interest mortgages were offered widely, ”it would eliminate the second mortgage field altogether. You wouldn`t need it. It would just be one big home equity loan.”
Olson formerly designed new mortgage products for Freddie Mac, another big secondary mortgage lender. He said simple interest mortgages will not catch on unless Freddie Mac and Fannie Mae agree to buy them because the two giants set industry standards.
Callejon said simple interest loans with their variable payments wouldn`t fit into the system Fannie Mae has devised to sell mortgages to investors. But, she added, ”that isn`t to say that in a brave new world we couldn`t create a different structure.”
If you`re interested in a simple interest mortgage, talk to a local lender. You might find you can work something out.
