Option ARMs were always a bad option
Goodbye and good riddance.
Option ARMs, a particularly dangerous type of adjustable-rate mortgage that allowed borrowers to choose how much to pay on their mortgage each month, are tough to find now.
And no wonder. Tens of thousands of homeowners are defaulting on these loans, facing foreclosure and helping to create the current mortgage crisis.
Option ARMs were one of the two or three most popular types of subprime mortgages sold to borrowers who couldn't qualify for conventional loans because of too much debt, bad credit scores, insufficient income or all three.
They were lured into these loans with exceptionally low "teaser rates" and the promise they could always choose to make a "minimum payment" that was less than they'd have to make on any other type of loan.
Option ARMs allowed them to get larger loans and bigger homes than they'd ever qualify to buy with a traditional fixed-rate mortgage.
What a deal!
But all too often that initial minimum payment was all the borrowers could ever hope to pay. They didn't realize that:
- Every payment option would start going up almost as soon as they moved in because their teaser rate would begin resetting in less than a year, and could adjust as often as every month after that until a substantial limit was reached.
- The minimum payment didn't even cover the monthly interest charge on their loans. (That's why it was so cheap.) The unpaid portion would be added to the principal, plunging borrowers further and further into debt with every check they wrote. This phenomenon, called "negative amortization," was actually advertised as a selling point by some lenders.
As a result, about one-in-five borrowers is in serious trouble.
They can't afford mortgage payments that are 30% to 100% more than they'd been promised and they owe tens-of-thousands of dollars more than they originally borrowed.
If they put little or no money down, and their property values have fallen, they're also "upside down" on their loan, and owe more than their home is currently worth.
That makes it difficult, if not impossible, to refinance or even sell.
Lenders swamped with defaults on these awful mortgages have responded by doing away with many of these special loans they had been lavishing on subprime borrowers just a couple of years ago.
The bad ones we won't miss. The good ones we will.
About the only way consumers with poor credit can obtain a new mortgage right now is through a federally backed loan program.
That isn't easy.
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