Starting next week, Fannie Mae is clamping down on the popular loan product.
An "interest only" mortgage is exactly what its name implies -- a mortgage for which the monthly payments consist entirely of interest with no principal reduction. Because there's no amortization, payments are less costly on a month-to-month basis.
For example, assuming principal + interest payments at 5 percent, a $250,000 mortgage carries a monthly payment of $1,342. The payment on a comparable interest only mortgage, however, drops to $1,042.
That's a payment difference of $300 and the size of the cost savings, not surprisingly, is the biggest reason why Fannie Mae is making its changes.
In its official announcement, Fannie Mae says it wants the give the interest only option to "borrowers who are in a position to choose it as a financial management tool" rather than allowing homeowners use it as an affordability tool for their budgets.
Going forward, there are new minimum standards for interest only home loans.
- Applicants must have a 720 credit score or better
- Applicants must have at least 24 months of reserves
- The property type may not be a 2-unit, 3-unit or 4-unit
- The property must be a primary residence, or vacation home
Furthermore, only purchase and rate-and-term refinances are eligible. Cash out refinances are prohibited.
Interest only home loans aren't for everyone, but if you plan to finance with a Fannie Mae mortgage and interest only is your preference, get your loan application submitted as soon as possible. Starting Monday, approvals will be tougher to come by.
