Subprime mortgages are loans granted to people with poor credit, who, because of their poor credit, would not be able to qualify for a conventional mortgage. Subprime borrowers present a higher risk for lenders. As a result, subprime mortgages charge interest rates above the prime lending rate.
There are several types of subprime mortgages. This article will tell you what you need to know about some of them.
This type of subprime mortgage is given for a term of 40 or 50 years, unlike the usual 30-year period. As a result, the borrower’s monthly payments are lower. Unfortunately, this type of mortgage also comes with a higher interest rate.
An ARM starts with a flat interest rate for a short period of time, such as the first two or three years of a 30-year mortgage, but switches to a floating rate later on. The floating rate is usually determined based on an index plus a margin.
The good thing about ARMs is that they allow borrowers to make lower monthly payments during the initial turn, while also giving them time to improve their credit scores, in which case, refinancing may be possible after the flat-rate period ends.
With interest-only mortgages, payment toward the principal is postponed during the initial term of the loan, which is usually five, seven or 10 years. Borrowers only pay interest. They can also make payments towards the principal, but this is not mandatory.
Borrowers start paying off the principal after the term ends. But at that point they can also choose to refinance the mortgage.
This new type of subprime loan allows borrowers to make a down payment of about 10% , if they agree to pay a higher rate interest for a set period of time, usually five years. If the borrowers make the monthly payments on time, after five years, the amount paid toward interest goes toward reducing the balance on the mortgage. The interest rate also decreases to the prime rate.