What is a Subprime Mortgage 

You’ve probably heard a lot about subprime mortgages these days. Especially with the recent meltdown and subsequent bankruptcy filings of mortgage companies such as: First Magnus Mortgage, Aegis Mortgage, American Home Mortgage Investment Corp, People's Choice Home Loan Inc., Ownit Mortgage Solutions, Mortgage Lenders Network and ResMae Mortgage.

So What Exactly is a Subprime Mortgage?
A subprime mortgage is a type of loan granted to people with poor credit ratings. Usually their FICO score is below 620. Due to their marred credit ratings, these individuals fail to qualify for normal conventional mortgages and are classified as subprime borrowers; meaning they are viewed by the industry as less than top quality clients.

Because subprime borrowers present a higher risk for lenders, subprime mortgagors charge interest rates above the prime lending rate. This strategic maneuver was implemented to help increase profitability of subprime loans and offset the higher risks. It worked so well that from 2004 through 2006, subprime mortgages became immensely popular and extremely profitable.

Literally every month someone was starting a mortgage company with subprime loans as the backbone of their operation. The Mortgage Bankers Association says subprime originations dollar volume totaled $2.5 trillion in 2006. That means for 2006, about 16.8 percent of the mortgage volume consisted of subprime loans. Needless to say, that’s a lot of greenback!

What Types of Subprime Mortgages Are Available?
There are several types of subprime mortgages available. The most common is the (ARM), which is an acronym for Adjustable Rate Mortgage. This product initially charges a fixed interest rate and then converts to a floating rate based on an index such as:

1-Year Treasury Security
LIBOR (London Interbank Offered Rate)
6-Month Certificate of Deposit (CD)
11th District Cost of Funds (COFI)

Each of these indexes move up or down based on conditions of the financial markets. Consequently, for every borrower that has an ARM, their payment will fluctuate upwards with the market their ARM is tied to.

How Much Will My Mortgage Payment Increase?
It depends... lets say you borrowed $100,000 on an ARM with an initial rate of 4.69% over 15 years. This means that your principal and interest payment will be approximately $774.74. As time progresses your adjustable rate increase to lets say 7.30%, your mortgage payment then increases to $915.68. That’s a $140.94 jump.

It is common for ARM payments to rapidly increase by three to four hundred dollars and more per month. For some people, that increase spirals them into financial ruin. All of the sudden that initial low start up rate with the ARM becomes somewhat of a curse to borrower and lender alike.

As the interest rates of subprime mortgages increases, the domino effect reverberates throughout the real estate and financial worlds. Foreclosures skyrocket, the lenders experience financial difficulties which forces pushes them to file bankruptcy. Investors get jittery and pullback investment funds which makes it harder for borrowers with less than great credit to get a mortgage loan.

Brad Pierce is a fulltime Real Estate Investor specializing in short sales and helping subprime borrowers recover from the subprime mortgage meltdown. With over 15 years of experience, Brad has quietly helped thousands of individuals experience their dream of home ownership.