Plan before interest-only loan adjusts

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Dear Dr. Don,
My interest-only mortgage comes due next year with $168,000 still to pay on the note. What is the right approach to dealing with this mortgage?
— Roger Refi

Dear Roger,
Reviewing the terms of your note is always a good first step. Some interest-only mortgages don’t have a balloon payment but are recast as amortized loans over the remaining term of the note, with monthly payments that include principal and interest components.

For example, a 10-year interest only period may be followed by a 20-year amortized loan.

Assuming you have a balloon payment due next year, this means you need to refinance to make the balloon payment by financing it with a new mortgage loan.

Alternately, you could decide to sell the house, closing before the balloon payment comes due. This presumes you can sell the home for more than the balloon payment.

If you want to stay in the house, you have to decide how you want to refinance the note. The decision will be based in part on how long you plan on being in the house, what the house is worth and what is an affordable payment for you.

Clean up your credit so that it is as pristine as possible before applying for your new loan. This is a critical step in times when lenders are tightening up their credit standards in approving new loans. Review your credit reports and dispute any incorrect information.

The Bankrate features, “How to get your free credit report” and “Fixing mistakes on your credit report” should do the trick, but you’ll also want to get copies of your credit scores as you get ready to apply for a new loan. The Bankrate feature “Contacting the credit bureaus” provides the links to the three major agencies.

Whether you want another interest-only loan or more conventional financing depends on the factors I mentioned earlier. Bankrate’s “Fixed vs. adjustable rate mortgage?” calculator can help with the decision.