Option adjustable rate mortgages (ARM) are a type of loan popular among 1 million borrowers who took them out during the peak of the housing market because of their low minimum payments.

Now, these payment-option ARMs are expected to reset higher, either next year or by 2011. The peak of this loan resetting is expected to happen sometime August 2011, when almost 54,000 mortgages recast, and the rise in the number of repossessed house will soon follow.

University of Pennsylvania’s Wharton School real estate finance professor Susan Wachter said that option ARM with high monthly payments is a threat to the repossessed house recovery and the economy.

She explained that the recast of option ARM will push the repossessed house supply to a higher level, undermining both the housing and economic market recovery. She added that the option ARM is partly the reason why the path towards the full recovery of the country’s economy and housing market is slow and time consuming.

Since 2004, over $750 billion option ARMs were initiated in the country. For example, a homeowner took out an option ARM of $315,000 to refinance his first loan on his house. He started his payment at 1 percent or below $100 per month.

Fast forward to today and the homeowner is already paying $3,500 monthly. Data from the U.S. Federal Reserve showed that interest rates on ARMs are usually very low in the first three months upon taking out of the loan.

ARMs usually recast every five years and low payments may end if the loan principal rises to as much as 125 percent of the original loan.

According to the Federal Reserve, option ARMs are usually marketed to borrowers who have good credit scores. Immigrants and older people are also favorite targets of lenders who offered option ARMs.

Meanwhile, refinancing is difficult to have in many states given the drastic drop in home prices nationwide. Also, mortgage rates are increasing from 5.29 percent to 5.59 percent for the period ended June 11.

The median price of a single-family home in California declined by 37 percent in April compared with $256,700 during the same month a year ago.

Industry experts agree that amortizing option ARMs will cause payments to surge and worsen the repossessed house crisis.