Upside: The initial interest rate is usually lower than with a fixed-rate mortgage. That means the monthly payment would also be lower. If you are only planning to live in your house a few years, this might make sense for you.
Downside: It is a gamble. If interest rates go down, so will your payment. However, if they go up, you will face a bigger payment each month. If you plan on being in your home for longer than the fixed portion of the loan, you are taking a risk. There are usually caps to protect borrowers from a massive rate explosion.
Interest-Only Mortgages:
What it is: The borrower only pays interest on the loan and does not have to pay any principle. This is a way to keep mortgage payments as low as possible.
Upside: Your monthly payments are low. If you are planning to move in a few years, and you expect your home to appreciate, you may be able to earn money on that appreciation without investing as much.
Downside: You aren’t building equity in your home, unless you choose to pay the principle some months. That means at the end of the loan, say fifteen years, you are going to have to start paying significantly higher payments if you ever want to own the place outright.
Balloon Mortgages:
What it is: This is a loan in which you pay a smaller amount each month for, say, the first seven years of the loan. Then, at the end of the seven years, you owe a huge “balloon” payment. Most people who use this option plan to refinance or move during that seven years.
Upside: This is a way to keep your payments down, especially if you are planning to live in your house a short time.
Downside: Because most people figure they will refinance before the balloon payment comes due, there is a risk that interest rates will be high at that time. The balloon is riskier than the ARM because there is no limit to how high the interest rate could go. ARMs typically have a cap.
