If you had placed a bet that the financials' writedowns would be kitchen-sinked this year, over, done, that's it, you are likely mistaken.

That's because the next wave of writedowns will come from negative amortization loans, a type of adjustable rate loan which require tiny monthly payments insufficient to even pay-off interest costs. Fox Business anchor Stuart Varney first alerted me to this story.

The bad loans are the reason why the government is moving to bail out homeowners with new housing legislation that would put this bad paper on the backs of taxpayers via a ramped-up Federal Housing Administration, which will help refinance and rejigger mortgages.

Lenders such as Countrywide Financial (CFC) have been racing to restructure these loans, as well as numerous other adjustable rate loans, since last fall.

And the loans are why you are increasingly seeing deals such as "100% financing" made to first-time home buyers, so neg am borrowers can unload their homes, and in turn their loans. The 100% financing deals are made possible via down-payment assistance programs run by nonprofit organizations.

These programs are funded largely by home builders and also by private homeowners desperate to sell. The seller-funded groups provide enough down-payment money to buyers so that they can qualify for a mortgage backed by the FHA, which requires at least a 3% down payment.

Supporters of the down-payment programs say they are vital to repairing a damaged housing market. Critics say the FHA, meaning taxpayers, will see more defaults in these loans, as today's seller-funded loan is tomorrow's foreclosure, reports the Wall Street Journal. Borrowers can just as easily walk away from down-payment assisted, no-money-down loans, as they sink virtually none of their own money into the house to begin with.

In a "neg am" loan, any interest not paid is added to the loan balance, a process called "negative amortization." These loans were given to borrowers with stated income (meaning, borrowers merely told lenders what their income was, and presto, they got a loan), or low- or no-documentation--meaning lenders did zero income checks.  

Often ARM loans give borrowers the "option" to set their own payment amounts. They can slow up paying on the principal of the loan, and they can even defer some of the interest payments.

These so-called "neg am" loans first became popular in coastal markets in 2003, says Sheila Bair, head of the Federal Deposit Insurance Corp. They reset after five years, meaning, they remain interest-only loans with no amortization for the first five years.

That means the first wave of these shoddy loans are resetting this year.

Many of these shoddily underwritten ARMs were made near the real estate market's peak in 2005 and 2006. That means these loans will reset to higher interest rates in 2010 and 2011. FDIC analysis says that large volumes of these loans will undergo payment reset and require amortization beginning in 2009, "in market conditions that may not be much better than we see today."

And that means the markets won't see a halt in Wall Street writedowns or loan defaults until 2011. Is that when housing, and the financials, will find their bottom?

Remember, it's estimated that Wall Street provided three-quarters of the financing for mortgages by repackaging them as securities.

Lenders made an estimated $581 bn in option ARM loans during 2005 and 2006 while shelling out an estimated $1.4 tn in interest-only ARMs, according to the mortgage research outfit First American LoanPerformance. Option ARMs are a type of interest-only loan.

A recent study estimated about $325 bn of these loans will default, leading to more than 1 million homeowners giving back their property to lenders. 

The Federal Bureau of Investigation is looking into whether troubled lender Countrywide Financial (CFC) deliberately made loans to borrowers who did not have the assets or financial wherewithal to pay them back, the Wall Street Journal has reported. The FBI is trying to prove Countrywide knowingly ignored signs that borrowers would not be able to repay loans.

Countrywide redirected its conveyer belt of mortgages towards Wall Street, including players like Merrill Lynch (MER), which repackaged and securitized this junk, ending up in hedge funds, pension funds, endowments, money market funds and insurance portfolios around the globe--including Old Lane Hedge Fund, formerly run by Vikram Pandit, chief executive of Citigroup (C).

It's been estimated that about half of the nearly $470 bn worth of loans that Countrywide made in 2007 had adjustable rates built in to its loan terms.

Looking at Countrywide Financial (CFC) alone, it has mortgages with unpaid principal balances that amounted to $87.2 bn as of March 31, 2008.

Of that sum, CFC has $27 bn in pay option loans, $24.8 bn of which were negative amortization loans.

Shareholders in Bank of America (BAC) are voting on the bank's $3 bn acquisition of Countrywide on June 25th. The bank has reaffirmed that the deal is going through.

Countrywide Financial should have seen this coming. It saw a notable increase in the percentage of its mortgage book with some level of negative amortization back in 2006, increasing year to year from under 12% to over 20%.

Right now, servicers thought they could get recovery rates of 60% on subprime loans, but even 30%  is thought to be currently unattainable. Some servicers have been selling loans for as little as three cents on the dollar.

Note: As of last fall, less than 4 % of the option and interest-only ARMs were delinquent, well below the 14 % rate for the subprime market, where about $1.5 tn in home loans are still outstanding, according to the most recent data from the research firm First American LoanPerformance.

But that's because these negative amortization arms reset after five years. Again, the first wave of these neg am loans, issued in 2003, are resetting now.