Mortgage-Trapped

Jim Sugarman, supervisory attorney at AARP's financial-abuse unit, says these alternative loans offer new opportunities but also carry added risks. About 59 percent of subprime loans have adjustable rates, according to the Mortgage Bankers Association, and any sudden spike in interest rates would push payments higher.

In a rising real estate market like that of the past few years, borrowers who fall behind on their mortgages could sell before going into default. For that reason, lenders haven't been too worried about repayment. But now, with home prices flat or falling, many homeowners may not be able to sell their homes for enough to cover their mortgage balances.

Alternative loan products are giving many people access to homeownership, counters Steve Calem, vice president with American Bank in Bethesda. "Interest-only loans help people get into their first house," he said. "Interest-only loans minimize their payments, when people know their income is going to be going up. It gives them flexibility."

Most consumers have only themselves to blame because they are not doing enough research on the mortgage market as it has grown increasingly complex, said Christopher Cruise, who trains mortgage brokers at major lending companies.

"The American consumer's ignorance of mortgage procedures in the past hurt them a little," he said. "What's different now is that it'll hurt them a lot. The stakes are a lot higher."

Persistent Phone Calls

Howard said he was persuaded to refinance his house by a "very friendly" loan officer who called once a week for a year, telling him the time was right to stabilize his finances.

After deciding to take out the loan, he said he told the lender he would need help reading the paperwork at the closing. He said he still doesn't understand exactly what kind of mortgage he signed.

Howard's mortgage contains several of these new features, said Sugarman, who has reviewed the documents. It is an interest-only loan, which is one of the nontraditional mortgages designed to help wealthy people manage their cash flow, and for people whose incomes are likely to rise -- not for those whose incomes, such as Howard's, are likely to fall as they retire on Social Security. The rate is fixed, but only for 10 years. Sugarman said Howard appears to have qualified for it with a "NINA" loan, a "no-income, no assets" loan that required minimal income documentation.

"It's a very exotic mortgage, and he had no idea he was getting that," Sugarman said. "He thought he was doing something smart."

Sugarman said that in the past, lenders didn't make these kinds of loans because they put financial institutions at risk. Bad real estate loans marked the beginning of the Great Depression, and subsequent banking reforms required lenders to consider the soundness of their lending practices. That made loans safer for borrowers and lenders alike.

What has changed is the booming market for real estate securities. Major financial institutions now put thousands of loans together and sell them in slices to investors. That means lenders seldom get caught holding the loans. If an individual loan goes bad, the effect is dissipated among many investors.

The new mortgage products have fueled record profits for the lending industry in recent years. Brokers can generate tens of thousands of dollars in additional fees, beyond what they earn on traditional mortgages, by placing borrowers in these loans, Cruise said.