Expert: Jessica Bryan - 8/27/2007

Question
Hello. I am trying to buy a house for 300K. I have no money for a downpayment. I currently have the option of an 80/20 loan, which is 5/1 ARM interest only for 5 years.
My question is this. If i purchase this house, with this loan and i want to sell it in 1-2 years. Will i end up owing the bank money? I have heard that a house does not build equity unless you make a downpayment. i have also heard that a house will naturally generate equity if the property value increases. When i end up selling this property, what will happen to the principal that i owed on the loan? Since i was only paying the interest for 5 years.
THanks in advance.

Answer
Dear Chaduga;
An 80/20 loan means that you get a loan for 80 percent of the value of the home and you put down 20 percent.  Since you said that you have no money for a down payment, you should double check the program that you think that you are getting.  To answer the rest of your question, if you are paying interest only on a home with 100 percent financing you will still owe the full $300,000 at the end of 5 years unless you make separate payments to the principal.  If you want to sell the home in 1-2 years, you will not have had a chance to build any equity (or at least not much) and between closing costs and fees you may find that you have made no profit at all.  You should know your market and see how homes are doing in the area. Right now, nationwide, prices of homes are not going up.  In fact, the national average of home prices has dropped (according to the latest figures.)Again, it all depends on the area in which you live.  Some markets are doing better than others. There is much that depends on conditions and other factors. For example,if you buy and get a great deal or find a brand new home with builder incentives, then perhaps you will have some built-in equity right away.  Still, I caution you that the time-frame of one to two years is not enough to see any appreciable equity and if home prices continue to fall, you may actually be "upside down" on your loan if you sell too soon.  

As for the principal that you owe on the loan when you sell: presumably you will sell the home for a higher amount than you paid and the proceeds will go to paying off your loan to the bank.  The remaining money is what you can put in your pocket or at least use in the down payment of another home.

Good luck and best wishes,
Jessica Bryan