A Graduated Payment Mortgage (GPM) is a type of fixed-rate mortgage where the payments start from a low base level and increase over time. This structure typically involves an annual payment increase of between 7% to 12% until the full monthly payment is reached.
Key Takeaways
- A GPM starts with lower initial payments that gradually increase over time.
- It allows homeowners to qualify for loans with smaller initial payments.
- Over the life of the loan, total costs may be higher as compared to a standard mortgage.
- There is a risk of financial strain if a homeowner’s income does not increase in line with the rising payments.
How Graduated Payment Mortgages Work
Graduated Payment Mortgages are designed with low initial payments to help certain buyers handle payments initially and qualify for a home. Over time, payment amounts increase. Since only the lower payment amount is considered at the loan’s onset, more individuals qualify compared to fixed-rate mortgages with higher starting payments.
A GPM may or may not result in negative amortization. If initial payments do not cover accruing interest, the deferred interest adds to the principal instead, termed as negative amortization. Importantly, GPMs are generally available through Federally Housing Administration (FHA) loans that allow eligible borrowers to finance a significant part of the home’s value.
Benefits of a Graduated Payment Mortgage
Choosing a GPM comes with various benefits including:
- Easier Qualification: Lower initial payments temporarily relieve financial burdens.
- Payment Flexibility: Payment burdens scale with potentially increasing income.
- Budget Adaptability: Homebuyers can remodel their budget efficaciously.
Drawbacks of a Graduated Payment Mortgage
The disadvantage primarily stems from higher overall costs over the mortgage’s lifetime:
- Higher lifetime payments due to rising interest rates.
- Possibility of interest-only payments initially, leading to principal reduction issues.
- Potential risk if income doesn’t increase proportionately to the mortgage payments.
- Early repayment might attract prepayment penalties.
Example of a Graduated Payment Mortgage
Consider a 30-year, $300,000 mortgage at 3% with a 2% annual increase rate for five years.
| Year | Payment Amount |
|---|---|
| 1 | $1161.50 |
| 2 | $1184.73 |
| 3 | $1208.43 |
| 4 | $1232.60 |
| 5 | $1257.25 |
| 6-30 | $1282.39 |
Without these graduations, the monthly payment would consistently be $1,265. Calculators can help predict such payments to contrast various mortgage terms.
Graduated Payment Mortgage vs. Adjustable-Rate Mortgage
Though it might seem similar, a GPM and an Adjustable-Rate Mortgage (ARM) differ fundamentally. GPM has scheduled, progressive payment increases, while ARM involves fluctuating rates based on market dispositions and may decrease or increase.
FAQs
What Is a Graduated Payment Mortgage?
A Graduated Payment Mortgage starts with lower initial payments which gradually increase, tailored mostly for low-income earners initially.
Who Should Consider a Graduated Payment Mortgage?
It is beneficial for someone expecting a steady income rise over the years. Without realistic income increment anticipation, a GPM could induce financial instability.
How Are Graduated Payments Calculated?
The calculations assess mortgage amount, interest rates, annual increase rates, and the duration or number of graduates applied. Online calculators provide quick evaluations.
Related Terms: Fixed-rate Mortgage, Adjustable-rate Mortgage, FHA Loan, Negative Amortization Loan, Down Payment.
References
- Consumer Financial Protection Bureau. “What Is Negative Amortization?”
- USA.gov “Mortgages”.
- Consumer Financial Protection Bureau. “FHA Loans”.
- The Federal Reserve Board. “Consumer Handbook on Adjustable-Rate Mortgages”, Pages 24-25.
