It's important to understand that GPMs experience negative amortization in the early years of the loan. This is when the monthly payment is not enough to cover the interest on the loan, so the unpaid interest gets added to the mortgage balance. In other words, instead of paying down your principal a little more each year as is the case with most mortgages, you're actually increasing your principal balance for the first five or 10 years, depending on the type of plan you choose. At the end of that period, you owe more than you did when you took out the loan. This all stops once your loan levels off at its permanent fixed rate. Then you begin paying down the principal.
With the plans compared on the previous page, the 7.5 percent plan would carry the greatest negative amortization, because the borrower enjoys the lowest payments.
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Although undoubtedly less risky than adjustable-rate mortgages (ARMs), GPMs can still be something of a gamble. If your income doesn't grow as anticipated, if you or your spouse loses a job, if you divorce or if you face other unexpected financial challenges, you'll find yourself staring down the barrel of rising house payments. What's more, the amount you owe the lender has grown while you have gained little equity in the home, which could become a nasty problem in the event of stagnant or declining real estate values.
Also, like other mortgage loans, GPMs may have a prepayment penalty if the balance is paid off early.
So is a GPM right for you? If you're in an occupation that's likely to have a salary increase as the years go on, then a GPM might work for you. Some of these include medical professionals, lawyers, engineers, accountants and IT professionals. However, if you're industry is less secure, then you should proceed with caution. Perhaps if you're an actor, artist, writer, day trader or sales person you may want to weigh other options. GPMs are also not good for self-employed individuals, unless your business is very successful and expected to grow in profitability.
The bottom line: Know what you're getting in to, weigh all your options, and get good advice. And it never hurts to be well-informed about such a big decision. Take a look at the links below to find out more.