The Rates Aren’t The Only Thing That Matters….. (My thoughts on how to create healing in the housing market)

by Tom Vanderwell

Mortgage Officer

Author website

A couple of thoughts about this article from the New York Times:

• It’s true.   Anecdotally, I’d have to say that depending on the day, anywhere from 30-50% of the people who I discuss refinancing with are either not able to do it because their income has fallen or because property values have dropped.  Now wait, you’re probably thinking, “I thought that the government was allowing people to refinance even if their mortgage was over 100% of the value of their property.    They are, but there are a couple of caveats to that:
• The loan has to be with either Fannie Mae or Freddie Mac and a substantial portion of the market isn’t with either one of those.   If you want to find out whether your loan is with either one of them, check Fannie Mae Loans or check Freddie Mac Loans to find out.
• If you have a second mortgage/home equity line of credit on your house and the combined balance of the two loans exceeds 105% of the value of your home (but is less than 125%) then you can still refinance, but the pricing adjustments that Fannie and Freddie charge are so extensive that unless your interest rate is over 6%, it’s probably not worth refinancing.
• If you are like a LOT of people in today’s economy, your credit score isn’t quite as high as it used to be.   It might be because you’ve had struggles to make some payments on time, it might be because you’ve had some of the credit lines cut on some of your credit cards (thereby lowering your credit scores because you’ve got too much of your available credit tied up), it might be a variety of reasons.   But the end result is the same.   In order to get the best possible rate, you need to have either:
• A 5% equity position in your house and no second mortgage or
• A first mortgage of no more than 80% of the value of the house and a combined loan to value (including second mortgage) of no more than 90%
• AND a credit score of 740 or higher.

Ask yourself, if the majority of markets in the country have dropped in excess of 20%, how many people are able to meet those guidelines?

Part of the reason that this is happening is because Fannie and Freddie are losing not only their shirts but pretty much everything else too.   So they have no choice but to tighten up their guidelines.   However the question does come up whether they are closing the barn door after the horses have left the county…..

There is a huge economic impact – if we can’t refinance someone’s house, we can’t make their payments cheaper.   That means they can’t use that money to either pay off their debts, spend at McDonalds or save for a rainy day.

So what’s the solution?  A couple of thoughts:

• We’re in an extremely overleveraged situation right now.    When property values were still going up, it wasn’t as big of an issue because liquidation was always an option.    If you bought too much house, you could sell it and almost always be “guaranteed” to at least get your initial investment out.    Not so much any more.
• Loan modifications don’t seem to be working.   Why not?   Two main reasons:  1) They are not offering substantial enough savings on a monthly basis for people to stay “on top” financially or 2) The borrower is so "underwater” in their financial situation that it’s not a substantial enough situation where they can see their way out of the problems.
• We need to face the fact that there’s still a substantial amount of bad debt out there.    There are a lot of mortgages that are “under water” and there are a lot of people who have loans that they can’t pay.

So what am I proposing?   Here’s an idea (I’ll call it the deferred equity proposal):

• All homeowners with a mortgage against their home (primary residences only) would receive a 20% principal reduction in their mortgage along with a reduction in their monthly payment.   Yes, I said “ALL.”
• They would need to sign a second mortgage with their existing mortgage holder for that 20%.   The second mortgage would need to be paid upon the sale of their existing home unless the seller buys another home and closes within 2 business days of the closing on the sale of the existing home.   The second mortgage would automatically become a prior lien to any other second mortgage that was filed prior to implementation of this policy.
• The mortgage is transferable to a new home if the owner decides to sell.  So, you have a $40,000 “new second” on your home, you can use that as the downpayment for a new home.
• All guidelines for refinancing would acknowledge this 2nd mortgage but it would be viewed as equity and would enable many more people to refinance.
• For every year that the owner remains a homeowner (rather than reverting to renting), 4% of the original balance would be forgiven.   So, in 5 years, the homeowner who is able to remain a homeowner will have a substantial amount of additional equity.  That would provide a strong incentive for people to remain in their homes and keep making payments.
• Yes, 20% of the value of the mortgage backed securities would “disappear” but I honestly don’t think that it would make that big of a difference in the value of those securities (and the corresponding value of Fannie, Freddie and FHA).    Let’s look at it this way, if 20% of the loan balances goes away but the rest of the portfolio performs better, isn’t that going to actually make them worth more?  I’ve heard estimates of mortgage backed securities portfolios selling for 40 to 60 cents on a dollar.   If it was performing better, don’t you think it would be worth at least comparable amounts, even if it was 20% smaller?

What does this actually accomplish?  A couple of things:

• Immediate payment relief for everyone in the country who has a mortgage (well, not immediate because it will take a while to accomplish).
• A very strong financial incentive for people to stay as homeowners.
• Provide a substantial additional boost to the economy because thousands of additional homeowners would now be able to refinance and generate additional cash flow opportunities that they wouldn’t have had otherwise.
• Many people who aren’t able to move now due to a lack of equity would be able to move – thus spurring the housing market.

This is obviously a 30,000 ft view, but tell me.   What am I missing?   Our government is already pouring billions into Fannie and Freddie and it hasn’t made a difference yet.   Wouldn’t something like this actually make a difference?    And wouldn’t it put a boost in the economy and make people feel better about owning homes?

Well, what do you think?

Tom Vanderwell

Despite Low Mortgage Rates, Homeowners Can’t Refinance

Published: Saturday, 12 Dec 2009 | 5:31 PM ET

By: David Streitfeld
The New York Times

Mortgage rates in the United States have dropped to their lowest levels since the 1940s, thanks to a trillion-dollar intervention by the federal government.

Yet the banks that once handed out home loans freely are imposing such stringent requirements that many homeowners who might want to refinance are effectively locked out.

The scarcity of credit not only hurts homeowners but also has broad economic repercussions at a time when consumer spending and employment are showing modest signs of improvement, hinting at a recovery after two years of recession.