In 2007, a wave of foreclosures swept America. By 2008, the U.S. economy was in crisis and the nation plunged into a recession. In 2013, the country was still facing high unemployment, stagnant wages, and poor growth. What started the downward spiral? Something called "balloon mortgages" were partly responsible.
Blowing Up in Your Face
Though "balloon mortgages" may sound friendly and harmless, they have caused a lot of trouble for home buyers. In a balloon mortgage, a buyer pays low monthly payments on his new house for the first 5 to 7 years. Then, at the end of that period, he has to pay everything he still owes on the house. He can take out a new loan with a higher interest rate, sell the house, or find the money to pay off the loan. Balloon mortgages attract buyers because they don't require a large down payment. They have low interest rates and enable people to buy bigger houses than they could otherwise afford. But balloon mortgages are only a good deal as long as property values keep rising.
In 2007, housing prices fell. People with balloon mortgages could not sell their houses or get new mortgages. The banks foreclosed on their homes and took them back. The wave of foreclosures made house prices fall even further. This meant that an increasing number of people owed more on their houses than the houses were worth. At the same time, the financial sector collapsed. Companies laid off many employees. But most of these people couldn't afford to sell their houses, so they couldn't move to find new jobs.
Today, the housing market has begun to recover. Fortunately, beginning in 2014, new laws aimed at discouraging balloon mortgages and protecting home buyers from deceptive loan agreements will take effect. Besides the private housing market, however, the commercial real estate market also contains many balloon mortgages. In fact, 11 million were due in 2013, yet it's difficult for businesses to get new loans. Many small companies may lose their property. It's possible that this recent recession will not be the last time that balloon loans cause trouble for the economy.
Learn more about balloon mortgages and their effect on the economic crisis with the following links.