When Debt Is Too Good to Be True

Imagine it -- an interest-only mortgage, which offers you lower monthly payments than a traditional mortgage. You pay only interest on the loan for the first several years. Then, you either refinance (ideally after your home has appreciated in value), pay off the loan in full, or start making payments on the principal (payments that can be much more than you'd have paid with a traditional mortgage). These mortgages are becoming popular lately, but borrowers are too often failing to consider that their home's value might fall, leaving them owing more than their home is worth. They're also not always able to make the higher future payments, putting their home in jeopardy.

Similarly, if you take on a 100% mortgage, where you buy a home with no down payment at all, while you do get a home without forking over a lot of upfront money, you generally end up paying a lot for private mortgage insurance (PMI). Some people with hefty stock portfolios favor 100% mortgages because they're able to let their stock investments keep growing instead of liquidating some for a down payment. But stock portfolios can tank in value, too, leaving borrowers with a flimsy cushion.

Not all forms of extreme borrowing are bad. Interest-only mortgages, for example, could work well for someone who's pretty sure he or she will earn much more in the near future.

But borrowers need to be wary. Consumer advocates are urging government-chartered entities such as Fannie Mae (NYSE: FNM  ) and Freddie Mac (NYSE: FRE  ) to warn borrowers about the risks related to extreme loans. (If you've ever wondered what these firms really do, let Bill Mann explain.)

Here are a bunch of other facts about mortgages and homebuying that you might not know.

Learn more about mortgages in these articles:

• Beware of Mortgage Servicing Scams
• Buy a Home, Not a Deduction
• Save Money on Your Mortgage

Learn more about buying, selling and maintaining a home in our Home Center, which also features special mortgage rates. Also, visit our Buying or Selling a Home and Building/Maintaining a Home discussion boards, to get some great insights and tips from fellow Fools.

Longtime Fool contributor Selena Maranjian does not own shares of any companies mentioned in this article.