Payment Shock
Payment shock occurs when the interest rate on an adjustable rate mortgage adjusts upward sharply. If the borrowers are unprepared they may find it difficult or impossible to make the monthly payments on time. Late payments can trigger penalties, more financial challenges and even lead to foreclosure.
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In this example, the interest rate is fixed at 7.5% for two years. To illustrate payment shock we'll examine the worst case scenario where in the 2nd month the index rate increases to the maximum interest rate for the loan and stays there for the duration of the mortgage. When you generate the amortization schedule you'll see that at the beginning of the third year the interest rate will jump to 13.5% thus increasing the borrowers' minimum monthly principal and interest payment from $1,398 to $2,260, an increase of approximately $862!.
Click on the Calculate button below to generate the amortization schedule for this example or enter your own information or explore the other examples.
The Basics: The Floor Rate Matters Margin Makes a Difference Payment Shock
Interest Rate Caps are Important Comparing Future Interest Rate Scenarios
Common Loan Types: 1/1 ARM 3/1 ARM 5/1 ARM 7/1 ARM 10/1 ARM
Other Examples: 2/28 3/27 5/25
