Same as Renting From the Bank?
As part of their mortgage modification plans, Wells Fargo is offering interest-only mortgages for a six to 10 year term, with the assumption that home prices and incomes will go up, so the owners can either sell or refinance at the point when their home will be worth more.
The problem here is that the home owner could still end up with little or no equity in the home, so if they make the interest payments for six years and then foreclose anyway, the bank gets six years of payments and the owner gets nothing. This is sometimes referred to as "just renting from the bank."In one instance reported by Dow Jones, owner Danny Annan got a principal reduction of $100,000 from Wells Fargo on his home in Orange County, Calif. The balance of his loan will be transferred to a six-year interest only loan at 4.9 percent.
"It looks like a Band-aid," Annan told Dow Jones.
To be fair to Wells, Mr. Annan is welcome to pay more than the interest-only payment if he can. He gets to stay in his house, and he had his principal reduced by $100,000, so it's not all bad on his side. He also will get a tax deduction from the interest he pays, assuming that he has any income.
Mr. Annan will reportedly still be $100,000 under water on his home after the principal reduction, so he needs to weigh the possibilities. If he doesn't like what the bank is offering, he can default on the mortgage and take his chances. Or try to hold out for a better offer.
While some financial experts advocate for the most conservative mortgage product possible, an interest-only mortgage for five to seven years is not necessarily a bad thing. It gives borrowers the flexibility to make whatever principal payment they are comfortable with, whether it's $50 or $500 a month or zero.
But people shouldn't blindly make the payments on an interest only mortgage for 30 years and then wonder why they still owe.