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In contrast, what's known as an interest-only or I-O payment plan allows you to pay only the interest for a specified number of years. After that, you must repay both the principal and the interest.
Most mortgages that offer an I-O payment plan have adjustable interest rates. Having an adjustable-rate mortgage, or ARM, means that the interest rate and monthly payment will change over the term of the loan.
When the I-O period ends, your payments could go up a lot-by 50 percent or more.
Another innovation in mortgages is a payment-option ARM. This is an ARM that allows you to choose among several payment options each month. The options typically include a traditional payment of principal and interest, an interest-only payment or a minimum (limited) payment.
The risk with making minimum payments is that you will be adding to the amount you owe. Your future payments could double or even triple.
However, an I-O mortgage payment or a payment-option ARM might be right for you if you have irregular income-such as commissions or seasonal earnings-and want the flexibility of making I-O or payment-option ARM minimum payments during low-income periods and larger payments during higher-income periods.
Interest-only or option ARM minimum payments may be risky if you won't be able to afford the higher monthly payments in the future.
If you are not sure that an I-O mortgage payment or a payment-option ARM makes sense for you, there are several other alternatives you could consider. For instance, find out if you qualify for a community housing program that offers lower interest rates or reduced fees for first-time homebuyers, making homeownership more affordable.
To learn more, visit the Web site at www.federalreserve.gov. An interest-only payment plan allows you to pay only the interest for a specified number of years.
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