Different types of mortgages

Source: Wikipedia

1. Adjustable rate mortgage (ARM). The interest rate on the loan is periodically adjusted based on an index. This is done to ensure a steady margin for the lender, whose own cost of funding will usually be related to the index. Consequently, payments made by the borrower may change over time with the changing interest rate (alternatively, the term of the loan may change).

Adjustable rates transfer part of the interest rate risk from the lender to the borrower. The borrower benefits if the interest rate falls and loses out if interest rates rise. Adjustable rate mortgages are characterized by their index and limitations on charges (caps).

2. Graduated payment mortage (GPM). It has low initial monthly payments which gradually increase over a specified time frame. These plans are mostly geared towards young men and women who cannot afford large payments now, but can realistically expect to do better financially in the future.

3. Interest only mortgage. During the agreed term, the borrower pays only the interest on the principal balance, with the principal balance unchanged. At the end of the term the borrower may enter an interest-only mortgage, pay the principal, or convert the loan to a principal and interest payment (or amortized) loan.

4. Fixed rate mortgage(FRM). The interest rate on the loan remains the same through the term of the loan. Fixed rate mortgages are characterized by their interest rate, amount of loan, and term of the mortgage.

5. Negative amortization mortgage. The borrower pays back less than the full amount of interest owed to the lender each month. The shorted amount is then added to the total amount owed to the lender. Such a practice would have to be agreed in advance, to avoid default on payment.

6. Balloon payment mortgage. This mortgage does not fully amortize over the term, leaving a balance due at maturity. The final payment is called a balloon payment. This mortgage may have a fixed or a floating interest rate.

A "two-step" mortgage plan may be used with balloon payment mortgage. Under this plan, sometimes referred to as "reset option", the mortgage "resets" using current market rates and using a fully-amortizing payment schedule. If there is not reset option, the borrower is expected to sell the property or refinanced the loan.