Alan recently joined Friendly Investment and Financing Options(FIFO) as a loan officer. FIFO is a national company thatspecializes in mortgage lending. One of Alanâs responsibilities isto increase the amount of mortgages FIFO initiates. In a meeting hehad with the CEO yesterday, Alan was told about a new mortgage thatFIFO intends to market. The new mortgage is called an optionadjustable rate mortgage, or an option ARM for short, and its mostattractive feature is that homeowners can choose to make relativelylow monthly payments at the beginning of the mortgage period.However, the payments increase significantly later in the life ofthe mortgage. In fact, depending on the amount the borrower choosesto pay early (hence, the term âoptionâ), the amounts that must bepaid later could be substantialâas much as four to five times theinitial payments. In many cases, when a homeowner chooses to paythe minimum amount or an amount that he or she can afford, themortgage turns âupside down,â which means that the amount due onthe mortgage grows to an amount that is greater than the value ofthe house. The primary benefit of option ARMs to borrowers is thatsuch loans allow those who cannot afford the monthly paymentsassociated with conventional mortgages the opportunity to purchasehouses. A borrower with income that is lower than is needed toqualify for a conventional mortgage can borrow using option ARMs,choose an affordable (lower than conventional) payment in the earlyyears of the mrotgage, and then make the higher payments in lateryears, when their incomes presumably will be higher. Thus, optionARMs permit those who canât afford conventional mortgages to buyhouses today that they otherwise couldnât afford until years intothe future. Lenders such as FIFO like selling option ARMs becausethey can recognize as current revenues the monthly payments thatwould be required if the loans were conventional mortgages,regardless of the amounts that the borrowers opt to pay. In otherwords, companies can âbookâ revenues that will not be collected fora few years. Unlike most people, including many professionals, Alanunderstands the complexities of option ARMs. He knows that manyborrowers who choose such mortgages will lose their houses three tofive years after buying them because the payments increase sosignificantly after the low-payment option period expires thatthese borrowers cannot afford the new monthly payments. And,although they would like to refinance with conventional mortgages,often these homeowners do not have good enough credit. Thisscenario is quite disturbing to Alan. He would like to explain tohis customers in clear terms the possible pitfalls of option ARMs,but the CEO of FIFO has instructed Alan that he should provide onlythe information that is required by law and to follow companypolicy, which states that lending officers should provide basicprinted material, give simple advice, and answer questions thatmight provide negative information only when asked. Alan has a badfeeling about option ARMs. He knows that they are greatlending/borrowing tools when used as intended. He is afraid,however, that FIFO is more concerned about booking revenues thanabout the financial wellbeing of its customers (borrowers). Whatshould Alan do? How would you handle this situation if you wereAlan?
Alan recently joined Friendly Investment and Financing Options(FIFO) as a loan officer. FIFO is a national company thatspecializes in mortgage lending. One of Alanâs responsibilities isto increase the amount of mortgages FIFO initiates. In a meeting hehad with the CEO yesterday, Alan was told about a new mortgage thatFIFO intends to market. The new mortgage is called an optionadjustable rate mortgage, or an option ARM for short, and its mostattractive feature is that homeowners can choose to make relativelylow monthly payments at the beginning of the mortgage period.However, the payments increase significantly later in the life ofthe mortgage. In fact, depending on the amount the borrower choosesto pay early (hence, the term âoptionâ), the amounts that must bepaid later could be substantialâas much as four to five times theinitial payments. In many cases, when a homeowner chooses to paythe minimum amount or an amount that he or she can afford, themortgage turns âupside down,â which means that the amount due onthe mortgage grows to an amount that is greater than the value ofthe house. The primary benefit of option ARMs to borrowers is thatsuch loans allow those who cannot afford the monthly paymentsassociated with conventional mortgages the opportunity to purchasehouses. A borrower with income that is lower than is needed toqualify for a conventional mortgage can borrow using option ARMs,choose an affordable (lower than conventional) payment in the earlyyears of the mrotgage, and then make the higher payments in lateryears, when their incomes presumably will be higher. Thus, optionARMs permit those who canât afford conventional mortgages to buyhouses today that they otherwise couldnât afford until years intothe future. Lenders such as FIFO like selling option ARMs becausethey can recognize as current revenues the monthly payments thatwould be required if the loans were conventional mortgages,regardless of the amounts that the borrowers opt to pay. In otherwords, companies can âbookâ revenues that will not be collected fora few years. Unlike most people, including many professionals, Alanunderstands the complexities of option ARMs. He knows that manyborrowers who choose such mortgages will lose their houses three tofive years after buying them because the payments increase sosignificantly after the low-payment option period expires thatthese borrowers cannot afford the new monthly payments. And,although they would like to refinance with conventional mortgages,often these homeowners do not have good enough credit. Thisscenario is quite disturbing to Alan. He would like to explain tohis customers in clear terms the possible pitfalls of option ARMs,but the CEO of FIFO has instructed Alan that he should provide onlythe information that is required by law and to follow companypolicy, which states that lending officers should provide basicprinted material, give simple advice, and answer questions thatmight provide negative information only when asked. Alan has a badfeeling about option ARMs. He knows that they are greatlending/borrowing tools when used as intended. He is afraid,however, that FIFO is more concerned about booking revenues thanabout the financial wellbeing of its customers (borrowers). Whatshould Alan do? How would you handle this situation if you wereAlan?
