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Subprime Mortgages - What You Need to Know

Posted by  on Aug 09, 2010
 
When someone is ready to get a loan for a new home, it makes sense that you might have saved up for the loan and that you have good credit before you get started. However, not everyone is as financially prepared as housing experts advise. And those people are often put into situations that might compromise not only their ability to purchase a home, but also the ability to own a home in the future. This is the challenge when you are trying to find a loan that fits your financial needs, so you need to be sure you know what you're getting into before you sign that dotted line.

What are Sub prime Mortgages?

A sub prime loan is a mortgage that is generally given to those homeowners that don't fall into a high credit rating bracket. When your credit rating is less than about 620, you become a candidate for a sub prime mortgage. Those who have such low credit ratings often are already having troubles with paying off their current bills or have had problems in the past with paying off credit. With a sub prime mortgage, these borrowers are considered to be high risk borrowers, so the mortgage is going to come with a higher interest rate than a typical mortgage. This often means that someone that would normally get a six percent mortgage would be getting one that was eight percent or higher.

Within these mortgages, most borrowers may opt to take on an adjustable rate mortgages (ARMs), which mean that they may see the interest rates rise and/or fall throughout the duration of the loans. This allows the borrower to take advantage of lower interest rates in the market, but also makes them susceptible to higher interest rate fluctuations. These ARMs will often begin at a very low interest rate, which allows people to have low monthly payments, but then the rate will rise, causing the monthly payments to rise as well. This can prove to be costly if the person paying the mortgage is unable to afford that rise in payment.

Who Benefits Most from these Mortgages?

What you might not realize is that a sub prime mortgage is actually something that happens not when someone is buying a home, but rather when someone is trying to refinance their current mortgage. By refinancing their loan, the borrower will be able to use the extra money to pay off other debts, like credit cards and school loans.

Many of those that would be looking into a sub prime loan would not be able to qualify for a traditional loan, so this becomes their only option in terms of getting more money for other bills or for an initial home purchase.

But in the end, the benefit of these loans is not necessarily the buyer. Since these buyers tend to already have a history of not being able to pay off their bills, there are many instances of foreclosures in these cases. And this means that the lenders will still get money for the loans as well as the home itself if the borrower isn't able to pay off the loan.

What Should You Watch Out For?

The main concern with sub prime loans is that they are very hard to understand. In the beginning, it can seem as though you are getting a much better deal, considering the credit score you have, but then suddenly your payments go up, causing you to further damage your credit score. To be sure that this is a good choice for you, you might want to have someone outside of the agreement explain your options and the agreement to you — like an accountant, for example. They will show you what will happen now and in the future and help you decide if this is the right choice for you.

The truth is that these loans (as many others) are often made to be confusing so that you think you're getting a great deal over the long run, but in actuality, you're only getting those lower payments for a short period of time. And if you're not using this time to save up or to use your extra money to pay down the debt even more, you're probably not making the most of this arrangement.

When you sign up for a sub prime loan for your home or for a new home, be sure that your original intentions are followed through. That is, if you were doing this loan in order to pay off your credit cards, then you need to do so. But if you're afraid that you might not go through with your original plans, you might want to go ahead and start saving up now for a new home as well as start to rebuild your credit line by paying your bills on time and getting old bills paid off.

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