Finding Edge-Case Mortgages

Lenders are creative when it comes to loans to enable people to own a home. That sounds very American, but sometimes the loans are issued regardless of a buyer's ability to pay. In recent years, when the housing market was hot, non-traditional loans sprouted up like dandelions on your front lawn. And then when the housing market melted, the crabgrass spread in the form of foreclosures.

Non-traditional loans include:

• Interest-only loans mean the buyer pays no principal and only interest for a period of time. Payments are low because the buyer is not paying anything down on the principal, though he can if he wants (though few do). If this is a short-term loan, buyers can benefit from the reduced payments — it enables them to borrow more in the loan amount. But it all depends on the length of the interest-only period; the shorter the better.
• Payment-option ARMs let the buyer choose from a selection of payments: negative amortization, interest only, or fully amortized. The buyer has to be careful not to pile up an even higher debt by always choosing the lowest payment.
• Zero-down loans do not require a down payment, so the loan amount, as a percentage of the purchase price, is usually higher than the Fannie Mae guidelines; if the borrower gets a second mortgage to cover the amount above the guidelines, it's called a "piggyback loan" or a "purchase money second mortgage." Ditto if the borrower does not have enough for a down payment, and gets two mortgages instead. (See Understanding Types of Mortgages and Home Loans.)

Traditional loans are those where the principal and interest are paid in an agreed-upon payment schedule, with a down payment that fits within the usual parameters. Fixed and conventional ARM loans fall into that description.