By Mike Heayn Real Estate 101
THE OTHER DAY I WENT TO A LARGE electronics store looking for a new cell phone. While searching, I became lost in the amazing amount of features offered. Nowadays you can watch TV, listen to music, browse the Internet and text.
After 20 minutes of playing with one phone, I stepped back and asked the sales person how the phone sounded when I talked on it.
To my bewilderment, the sales person said they did not know since it was not a heavily used feature.
What!? When did talking to someone on a cell phone become a secondary feature? I must have missed the memo that the cell phone companies sent out.
Just as cell phones have become devices where calling someone is not the most important feature, loans have become instruments where paying them down is not the first priority.
Gone are the days of easy financing, now you need to show all documentation — which is a good thing — to get a loan. The bottom line is that people should not get loans they cannot afford.
However, not too long ago, loans existed where you did not have to pay down the principal, just the interest — known as interest only loans.
I am a big fan of interest only loans for investment properties where you are purchasing a cash flow, but interest only loans should be given to sophisticated investors, not novice homeowners.
Sophisticated investors tend to understand the ramifications of not paying down principal and the underlining risk associated with it.
Another type of loan that was popular in its heyday was the negative amortizing loan. To this day, this loan product dumbfounds me for new homeowners. The idea is the borrower pays a minimum amount each month.
That minimum amount is significantly smaller than the actual fully amortizing payment. For example, say a fully amortizing payment is $2,000, the negative amortizing payment may be $550. The difference in principal and interest is added to the principal balance.
That means $1,450 is added to the principal balance each month using the example above. The thought was that a borrower could refinance into a new loan after a couple years or sell the property at a profit and not worry about the accrued amount added to the principal balance.
The problem is real estate does not always increase in value and you cannot always refinance out of a property, as many borrowers are finding out in this challenging real estate market.
Many lenders, particularly banks, are returning to the basic loan programs that work, underwriting loans for borrowers that make sense to them. Many banks are becoming conservative with stricter credit criteria. The most popular loans are the 30-year fixed loans for borrowers and the fixed hybrid loans.
The 30-year fixed loan was the banks’ bread and butter loan for many years. Forty years ago, borrowers did not refinance their homes to take money out.
A loan was placed on a home and paid down monthly until paid in full. In this day and age of creative financing, you seldom hear of a borrower keeping a loan for 30 years.
Of course, there are good arguments for changing financing; the most prevalent argument is a lower interest rate. It is true over time, a lower interest rate can save you tens of thousands of dollars, but every time you refinance you are starting the clock over again.
Many people do not stay in their first home longer than five years, so lending institutions figured out a way to give people financing that works for them.
Many banks have what are known as fixed hybrid loans. A fixed hybrid loan is fixed for the first few years, usually up to 10 years, then becomes or rolls to an adjustable loan.
The most common fixed loans are the 3-, 5-, 7-and 10-year fixed products. These loans usually have lower fixed rates than the 30-year fixed loans. If you are moving out of a property after five years, it makes little sense to get a 30-year fixed loan and pay more money in interest.
The most important factor to remember when you are attaining financing is to make sure you can comfortably make the monthly payment.
After determining if the payment works for you, figure out how long you are going to own the property. Most loan officers and mortgage brokers will help you get the best financing to suit your needs, but ultimately it is your responsibility to get a loan that works for you.
Take the time and write out a budget, make sure you ask all questions and understand all the answers before you sign any loan documents.
It is tougher to get financing today than it was a year ago, but if you go into the process armed with knowledge and work with a good loan officer or mortgage broker, you can find yourself with the best financing to suit your needs.
MIKE HEAYN is a Washington Mutual multi-family loan consultant. He (310) 428-1342, or e-mailed at
Originally published in the Santa Monica Daily Press print edition on September 17, 2008. Read the original PDF.