What is the primary risk associated with an interest-only mortgage?

• A. The borrower may owe a larger principal balance when the interest-only period ends
• B. The borrower is guaranteed to build equity
• C. The interest rate will decrease after the period ends
• D. The loan will automatically convert to a fixed-rate mortgage

Answer: (A)

The primary risk associated with an interest-only mortgage is that the borrower may owe a larger principal balance when the interest-only period ends. In an interest-only mortgage, the borrower is allowed to pay only the interest for a specific period, which means that the principal balance does not decrease during that time. Once the interest-only period concludes, the borrower must either start making principal and interest payments or face a balloon payment, depending on the loan terms. At this point, the borrower may find themselves with a larger outstanding principal balance than they initially anticipated, which can lead to financial challenges, especially if property values decline or if the borrower's financial situation changes.

Other choices do not reflect the true nature of interest-only mortgages. The notion that a borrower is guaranteed to build equity is misleading because, without payments toward the principal, equity may not be built unless the property value itself increases. Similarly, the idea that the interest rate will decrease after the period ends is not inherently true and depends on market conditions, which can often lead to interest rates rising instead. Lastly, the automatic conversion to a fixed-rate mortgage does not generally occur; once the interest-only period concludes, the terms of the loan dictate how payments will resume, and those terms can vary widely from loan to