Graduated Payment Mortgages (GPMs)

A graduated payment mortgage is a type of mortgage in which the payments increase over the first part of the mortgage term (5 to 10 years) and then remain at the higher rate for the duration of the mortgage.

Graduated payment mortgages are issued by any FHA approved mortgage source; banks, mortgage companies, and savings and loan associations etc. Graduated payment mortgages are insured by Federal Housing Administration (FHA) mortgage insurance programs against loan default. This assists borrowers by:

• Reducing the down payment required to as little as 3%.
• Allowing some closing costs to be financed.
• Limiting some of the lending charges.
• Slightly relaxed credit requirements for borrowers.

A graduated payment mortgage is designed for home buyers with low to moderate incomes who expect their incomes to increase over the next few years to be able to purchase a house. When using a graduated payment mortgage the borrower must keep in mind that the payments will increase for the first five to ten years. However, after this period they stop increasing and remain the same for the balance of the mortgage term. The interest rate for a graduated payment mortgage doesn't change over time, just the payments you make increase.

There are five different plans available to the borrower:

• Mortgage payments increase 2.5% during the first 5 years of the loan.
• Mortgage payments increase 5.0% during the first 5 years of the loan.
• Mortgage payments increase 7.5% during the first 5 years of the loan.
• Mortgage payments increase 2% annually over the first 10 years of the loan.
• Mortgage payments increase 3% annually over the first 10 years of the loan.

Advantages:

• The lower payments at the start of the mortgage make it possible for more people to qualify for a mortgage.
• The increase in payments is known ahead of time by the borrower and thus can be budgeted for.
• If the price of houses increases faster than the increase in the mortgage during the first years of the mortgage the borrower will still have an increase in their equity.

Disadvantages:

• The initial payments don't cover the interest due and the difference is added to the original amount borrowed (negative amortization). During the initial 5 to 10 years if your home hasn’t increased in value you may owe more than you can sell the house for.
• If your income doesn’t increase or doesn’t increase at the rate you anticipated you may have trouble meeting the payments.
• The negative amortization inherent in this type of mortgage adds to the risk that a lender takes. The lender thus charges a higher interest rate on a graduated payment mortgage than they would on a fixed rate mortgage.

• The property must be the primary residence of the borrower.
• Are only available for one-unit properties.
• Normal cash availability, credit requirements and the ability to make the mortgage payments are required.
• Applications for a mortgage are made through any FHA approved lending institution.