Monthly Archives: January 2009
Mortgage Equity Withdrawal - Are Americans Addicted to It?
Posted January 31, 2009 – 10:00 pm in: Foreclosure, Mortgage rates, Mortgage recovery, rating agencies, refinanceMuch of the money homeowners borrowed fueled consumer spending and reinforced poor financial management techniques. It was common during the bubble rally for people to run up enormous credit card bills then refinance every year and pay them off. It is foolish enough to finance consumer spending, but it is even more foolish to pay for this spending over the 30-year term of a typical mortgage. The consumptive value fades quickly, but the debt endures for a very long time.
Many people responded to the “free money” their house was earning by liberating their equity as soon as they could so they could buy cars, take vacations, and generally live the good life. This borrow-and-spend mentality was actually encouraged by lenders who were eager to make these loans and even the government which was benefiting by economic expansion and higher tax receipts.
The recession of 2001 was caused by the collapse of stock prices and the resulting diminishment of corporate investment. The recession was shallow, but the economy had difficulty recovering mostly due to continued erosion of manufacturing jobs. The Federal Reserve under Alan Greenspan was desperate to reignite economic growth, so the FED funds rate was lowered to 1% and kept there for more than a year. It was hoped this increased liquidity would go into business investment to restart the troubled economy; instead, it went into mortgage loans and consumers’ pockets through mortgage equity withdrawal. Basically, the economic recovery from 2001 through 2005 was an illusion creating by excessive borrowing and rampant spending by homeowners. The economy did not grow through production; it grew through consumption.
There are many theories as to the decline and fall of the Roman Empire. One of the more intriguing is the idea that Rome fell because it was weakened by the parasitic nature of Rome itself. Rome existed to consume the resources of the empire. Boats would come to the city loaded with goods and leave the city empty. Consumption kept the masses happy and thereby quelled civil unrest. The Roman Empire was the world’s only superpower with an unsurpassed military might. Equally unsurpassed was its ability to consume resources. Does any of this sound like the United States?
The United States has clearly become a consumer nation, and the government continues to borrow huge sums of money to keep the economic engine of consumption going. In early 2008, Congress passed a “stimulus” package where many people would receive direct gifts of money in the hope they would spend it and keep the economy going. Since the Federal Government was already running a deficit, this money was borrowed from future tax receipts. In other words, this handout was obtained from future generations. With house prices crashing, direct handouts of borrowed government money were necessary to make up for the loss of borrowed private sector money that used to be available through mortgage equity withdrawal.
So what happens to Americans when you take away their Mortgage Equity Withdrawal? They experience a severe economic recession rivaling the Great Depression when their borrowing is taken away. Like a drug addict experiencing withdrawals, Americans are going through severe economic pain getting off their mortgage equity withdrawal habit.
<a href="http://www.thegreathousingbubble.com/author/">Lawrence Roberts</a> is the author of The Great Housing Bubble: Why Did House Prices Fall?
Learn more and get FREE eBooks at: <a href="http://www.thegreathousingbubble.com/">http://www.thegreathousingbubble.com/</a>
Read the author's daily dispatches at The Irvine Housing Blog: <a href="http://www.irvinehousingblog.com/">http://www.irvinehousingblog.com/</a> Visit <a href="http://www.articlepool.com/mortgage+equity+withdrawal++are+americans+addicted+to+it-32165">Mortgage Equity Withdrawal - Are Americans Addicted to It?</a>.
Judicial and Non-Judicial Foreclosure - What Is the Difference?
Posted January 31, 2009 – 10:00 pm in: Foreclosure, Mortgage rates, Mortgage recovery, rating agencies, refinanceWhen a borrower cannot repay a loan, the lender may or may not be able to sue the borrower to collect any shortfall. The key difference is whether or not the loan is classified as a recourse loan or a non-recourse loan. If the loan is recourse, meaning the lender can go after any shortfall, the lender still must go through a judicial foreclosure in order to collect the deficiency.
Many would-be sellers failed to sell their homes at inflated bubble prices. This might not have been a financial burden depending on how they managed their mortgage debt. They may have regretted missing the windfall they could have received by selling at the peak, but they stayed comfortably in their homes and forgot about the excitement of the real estate bubble.
The sellers who missed the peak sales prices and fell underwater on their mortgage faced more difficult choices. Many borrowers concluded a foreclosure was the best course of action because they owed more on their loan than their property was worth. Also, due to the exotic loan terms utilized by many borrowers, they were experiencing increasing loan payments and decreasing property values. With the prospect for recovery bleak, many decided to give up paying their mortgages and allowed the lender to foreclose. One can argue the morality of this decision, but financially, it was the best course of action given the conditions.
Foreclosure proceedings in most states can be either judicial or non-judicial at the lenders discretion. The lender has the right to sue the borrower in a court of law for repayment of the debt on the property. This legal action is a judicial foreclosure. A judicial foreclosure is slower and costlier than a non-judicial foreclosure.
The mortgage agreement has a provision where the borrower authorizes the lender to sell the property at a public auction if the borrower fails to pay the debt. A lender can exercise this right without a court order, and therefore it is considered a non-judicial foreclosure. It is faster and less expensive to perform a non-judicial foreclosure because no attorneys are involved and there is no waiting for a case to come up on a court’s schedule; however, there is a problem with non-judicial foreclosure, in most states the lender waives their rights to obtain money in a deficiency situation because no deficiency judgment is entered in the court record.
When faced with deciding between a judicial or non-judicial foreclosure, the lender must weigh the cost and time of a judicial foreclosure against the probability of actually collecting any money with a deficiency judgment. If a borrower is insolvent, which they often are if they are going through a foreclosure, they may not have enough money or other assets for the lender to collect on the deficiency judgment. In these circumstances, the lender will foreclose with a non-judicial procedure to minimize their losses. In these circumstances the borrower is not liable for repayment on the deficiency.
<a href="http://www.thegreathousingbubble.com/author/">Lawrence Roberts</a> is the author of The Great Housing Bubble: Why Did House Prices Fall?
Learn more and get FREE eBooks at: <a href="http://www.thegreathousingbubble.com/">http://www.thegreathousingbubble.com/</a>
Read the author's daily dispatches at The Irvine Housing Blog: <a href="http://www.irvinehousingblog.com/">http://www.irvinehousingblog.com/</a> Visit <a href="http://www.articlepool.com/judicial+and+nonjudicial+foreclosure++what+is+the+difference-32164">Judicial and Non-Judicial Foreclosure - What Is the Difference?</a>.
Home Improvements Loans Are a Bad Idea
Posted January 31, 2009 – 10:00 pm in: Foreclosure, Mortgage rates, Mortgage recovery, rating agencies, refinanceMost homeowners do not save money for major improvements and required maintenance, and these homeowners often take out home equity lines of credit as a method of mortgage equity withdrawal to fund home improvement projects. The logic here is that renovations improve the property so an increase in property value offsets the additional debt. This is a bad idea.
Mortgage Equity Withdrawal or MEW is the process of obtaining cash through refinancing residential real estate using the accumulated equity as collateral for the loan. Before MEW homeowners would have to wait until the property was sold to get their equity converted to cash. Apparently, this was deemed an inefficient use of capital, so lenders found ways to “liberate” this equity with home equity lines of credit or cash-out mortgage refinancing. Home equity lines of credit are popular with lenders despite the additional risk of being in the second or third lien position because borrowers are less likely to default or prepay than non-cash-out refinancing.
Home improvement projects rarely add value on a dollar-for-dollar basis, particularly with exterior enhancements which often only return 50 cents on the dollar in value. The home-improvement craze was so common during the Great Housing Bubble that the term “pergraniteel” was coined to describe the Pergo fake wood floors, granite countertops, and steel appliances that defined the Great Housing Bubble era in much the same way as shag carpeting and wood wall paneling defined the interior decorating of the 1970s.
MEW has been utilized by homeowners for home improvement for decades, but the widespread use of this money for consumer spending was largely an innovation of the Great Housing Bubble. Since consumer spending is almost 70% of the US economy, mortgage equity withdrawal was the primary mechanism of economic growth after the recession of 2001, a recession caused by the deflation of another asset bubble, the NASDAQ technology stock bubble.
Mortgage equity withdrawal is generally a bad idea. It adds to mortgage debt and reduces a borrowers net worth. It may be prudent to borrow 50% to 70% of a home renovation project with a home equity line of credit as this much borrowing will be offset by the value added to the property. Realistically, few will want to pay cash for home improvement projects and they will borrow the full amount whether it is a smart financial decision or not.
<a href="http://www.thegreathousingbubble.com/author/">Lawrence Roberts</a> is the author of The Great Housing Bubble: Why Did House Prices Fall?
Learn more and get FREE eBooks at: <a href="http://www.thegreathousingbubble.com/">http://www.thegreathousingbubble.com/</a>
Read the author's daily dispatches at The Irvine Housing Blog: <a href="http://www.irvinehousingblog.com/">http://www.irvinehousingblog.com/</a> Visit <a href="http://www.articlepool.com/home+improvements+loans+are+a+bad+idea-32163">Home Improvements Loans Are a Bad Idea</a>.
Mortgage Equity Withdrawal is a Cultural Pathology
Posted January 29, 2009 – 10:00 pm in: Foreclosure, Mortgage rates, Mortgage recovery, rating agencies, refinanceMortgage Equity Withdrawal or MEW is the process of obtaining cash through refinancing residential real estate using the accumulated equity as collateral for the loan. This is a cultural pathology because it is not sustainable. Many people became addicted to using their houses as an ATM machine, and when prices fell, these people lost their homes in foreclosure.
Before MEW homeowners would have to wait until the property was sold to get their equity converted to cash. Apparently, this was deemed an inefficient use of capital, so lenders found ways to “liberate” this equity with home equity lines of credit or cash-out mortgage refinancing.
Home equity lines of credit are popular with lenders despite the additional risk of being in the second or third lien position because borrowers are less likely to default or prepay than non-cash-out refinancing. The impact of MEW on equity is obvious; it reduces equity by increasing the loan balance. It has been noted that equity is a fantasy and debt is real, and MEW is the process of living the fantasy with the addition of very real debt.
MEW has been utilized by homeowners for home improvement for decades, but the widespread use of this money for consumer spending was largely an innovation of the Great Housing Bubble. Since consumer spending is almost 70% of the US economy, mortgage equity withdrawal was the primary mechanism of economic growth after the recession of 2001, a recession caused by the deflation of another asset bubble, the NASDAQ technology stock bubble.
Many people who extracted their home equity lost their homes for lack of ability to refinance or make their new payments. After so many people lost their homes due to their own reckless borrowing, it is natural to wonder why these people did it. Why did they risk their home for a little spending money?
First, it was not just a little money. Many markets saw home values increase at a rate equal to the local median income. It was as if their home was another breadwinner. The lure of this easy money was too much for many to resist. The rampant, in-your-face, marketing of these loans in every available media outlet touting the glossy “lifestyle” of over-the-top consumerism was a drug to many spending addicts. Also, during the bubble rally people really believed their house values would go up forever, and they would always have the ability to refinance enormous debts at low interest rates and maintain very low debt service costs. Most people did not think it possible they would end up in circumstances where they would lose their homes; however, they were mistaken. Given these beliefs, the equity accumulating in their house was “free money” they just needed to access in order to live and to spend like rich people. Even though they were consuming their net worth, and making themselves poor, they believed they were rich, and they wanted to spend accordingly.
People were able to create a lifestyle of ever-increasing debt during the Great Housing Bubble. It was a Ponzi Scheme on a truly colossal scale. When the Ponzi Scheme collapsed, so did house prices, and so did the lifestyle dependent upon mortgage equity withdrawal.
<a href="http://www.thegreathousingbubble.com/author/">Lawrence Roberts</a> is the author of The Great Housing Bubble: Why Did House Prices Fall?
Learn more and get FREE eBooks at: <a href="http://www.thegreathousingbubble.com/">http://www.thegreathousingbubble.com/</a>
Read the author's daily dispatches at The Irvine Housing Blog: <a href="http://www.irvinehousingblog.com/">http://www.irvinehousingblog.com/</a> Visit <a href="http://www.articlepool.com/mortgage+equity+withdrawal+is+a+cultural+pathology-32162">Mortgage Equity Withdrawal is a Cultural Pathology</a>.
Downpayments Are Back! What Happened to 100% Financing?
Posted January 27, 2009 – 10:00 pm in: Foreclosure, Mortgage rates, Mortgage recovery, rating agencies, refinanceDownpayments are required again thanks to the credit crunch. Many people thought 100% financing would be made available forever. They were mistaken. One-hundred percent financing will never return because it exposes lenders to too much risk.
Most people do not think of downpayments as a way of managing risk, but lenders do. Downpayments reduce risk in two ways: first, they lower the monthly payment, and second, they provide a cushion ensuring the borrower can refinance (if necessary) should the house value decline. The problem with downpayments is obvious: few people save enough money to have one.
Eliminating downpayments through the use of 80/20 combo loans was another massive stimulus to the housing market. Subprime loan originations in 2006 had an average loan-to-value ratio of 94%. That is an average downpayment of just 6%. Also, 46% of home purchases in 2006 had combined loan-to-value ratios of 95% or higher.
Lenders used to require downpayments because they demonstrated the borrower’s ability to save. At one time, having the financial discipline to be able to save for a downpayment was considered a reliable indicator as to a borrower’s ability to make timely mortgage payments. Once downpayments became optional, a whole group of potential buyers who used to be excluded from the market suddenly had access to money to buy homes. Home ownership rates increased about 5% nationally due in part to the elimination of the downpayment barrier and the expansion of subprime lending.
Besides stopping people from saving for downpayments, 100% financing harmed the market by depleting the buyer pool. In a normal real estate market, first-time buyers are saving their money waiting until they can make their first purchase. This usually results in a steady stream of first-time buyers that enter the market each year. When 100% financing eliminated the downpayment requirement, it also eliminated any need to wait. Those who ordinarily would have bought 2-5 years in the future were able to buy immediately. This emptied the queue.
This type of financing appears periodically in the auto industry, especially in downturns when it is necessary to liquidate inventory. The term for this is “pulling demand forward,” because it reduces demand for new cars in the next few years. This might not have been a problem if 100% financing would have been made available to everyone forever; however, once downpayment requirements came back those who would have been saving were already homeowners, so there were few new buyers available, and any potential new buyers had to start over saving for the downpayment they thought would never be required.
The situation was made worse because those late buyers who were “pulled forward” from the future buyer pool overpaid, and many lost their homes. This eliminated them from the buyer pool for several years due to poor credit and newly tightened credit underwriting standards. Thus, most who thought 100% financing was a dream come true found it to be a nightmare instead.
<a href="http://www.thegreathousingbubble.com/author/">Lawrence Roberts</a> is the author of The Great Housing Bubble: Why Did House Prices Fall?
Learn more and get FREE eBooks at: <a href="http://www.thegreathousingbubble.com/">http://www.thegreathousingbubble.com/</a>
Read the author's daily dispatches at The Irvine Housing Blog: <a href="http://www.irvinehousingblog.com/">http://www.irvinehousingblog.com/</a> Visit <a href="http://www.articlepool.com/downpayments+are+back+what+happened+to+100+financing-32159">Downpayments Are Back! What Happened to 100% Financing?</a>.
New Mortgage Regulations — What You Need to Know
Posted January 26, 2009 – 10:00 pm in: Foreclosure, Mortgage rates, Mortgage recovery, rating agencies, refinanceIt may be no surprise that mortgage regulations are getting tighter, but if you’re in the market for a mortgage to purchase a new home, you need to know what those regulations are. Educate yourself about what it takes to get approved for a mortgage and find out exactly how much you can get approved for before deciding on that dream home that might be out of your range.
The New Minimums and Maximums of Mortgage Regulations
Getting approved for a home loan isn’t just about how much you can afford. There are a slew of other factors involved that affect whether or not you’ll get that mortgage, and many of those factors come with minimums on what you need and maximums on what you can get.
Your Credit Score and Income
One of the most important numbers when it comes to mortgage loan approval is your credit score, and the minimum number for that score is now 580. If you’re credit score is below that number, think about improving your credit before applying for a mortgage. You’ll also face not only higher minimums for income, but also increased maximums on your debt level. When that debt to income ratio is rather high, chances of getting approved for your mortgage become slim.
Fannie Mae Loan Limits
Fannie Mae has mortgage loan limits for all of its conventional mortgages. The 2008 loan limits went into effect on January 1, 2008, and are as follows: the single family residence loan limit is $417,000, the two-family loan limit is $533,850, the three-family loan limit is $645,300, and the four-family loan limit is $801,950. If you are looking for a home in Hawaii, Alaska, the U.S. Virgin Islands, or Guam, be aware that the loan limits are higher and you should check with your lender.
Past Bankruptcy and Foreclosure
If you’ve owned a home before, but it didn’t end well, you need to understand what your options are for getting a new mortgage.
If it’s a Chapter 13 bankruptcy that mars your credit, you will need 2 years from the date of the bankruptcy discharge. If it was a Chapter 13 dismissal instead of a discharge, or any other type of bankruptcy, you’ll need to wait 4 years before your credit can be re-established.
Foreclosures require even more time: 5 years have to elapse before you’ll be considered for a new loan.
If you haven’t experienced either, but you have been delinquent on a mortgage for more than 60 days in the past 6 months, you’ll be considered a risk and will have trouble getting approved for a new loan.
Risk Factors and Other Approval Guidelines
The new mortgage approval guidelines don’t stop there. Any mortgage that’s considered a high risk is going to have trouble getting approved. That includes interest-only ARMS (adjustable rate mortgages), and maybe somewhat surprisingly, a mortgage for a condo. Yes, you read that right. If you want a loan for a condo as opposed to a single family detached home, you will be considered a higher risk.
Also, when the loan to value ratio on a mortgage is greater than 85%, private mortgage insurance (PMI) is not going to lower your risk factor anymore. However, on a slightly different note, if you’re self-employed, you’ll actually be considered less of a risk than you would have been in the past. Another new guideline to be aware of is that an authorized user on your credit card who has a better credit score than yours will no longer factor into your credit rating.
Expanded Approval Loans May Be An Option
Maybe you no longer qualify for a conventional mortgage, but if you come very close, then you may be able to qualify for an Expanded Approval loan from Fannie Mae. Don’t get this type of loan confused with a subprime loan; there are still strict guidelines for approval. You will pay higher interest rates than a conventional loan, and if you have to pay PMI, those rates can be high as well.
Even though getting approved for a mortgage is harder than it used to be just a few months ago, don’t set aside your dream of owning a home. Make an effort to understand the new guidelines and take the time to improve the areas of your application that you can. It may take a little longer than you originally hoped, but it can still lead you to mortgage approval for your new home.
For more articles on avoiding bankruptcy, visit http://www.bills.com/mortgage-regulations-changes/
Justin narin has 5 years experience as a financial adviser; his key areas are loan consolidation, debt relief, mortgages etc. For more free articles and advice visit http://www.Bills.com
No Comments | Tags:Refinancing Your Home Equity Line of Credit
Posted January 26, 2009 – 10:00 pm in: Foreclosure, Mortgage rates, Mortgage recovery, rating agencies, refinanceThese days, borrowers use Home Equity Lines of Credit (HELOCs) to assist with all sorts of expenses. Some of the most popular reasons for taking out a HELOC are college tuition, medical expenses, home remodeling, and debt consolidation. Because the interest is tax-deductible, a HELOC can be a very attractive option when you need to borrow money. You may also take out a HELOC at the same time that you secure your first mortgage when buying a home in order to finance a greater percentage of what the home is worth without the need for mortgage insurance.
Whatever the circumstance were when you took out your HELOC, the time may come when you decide to refinance it. The factors pertaining to why and how you go about refinancing your HELOC will be as individual as you are. Make sure you have clear goals as to why you are refinancing, and be certain those goals can be met by the program you choose.
One reason to refinance a HELOC, and the first one that comes to most people’s minds, is the interest rate. This may or may not be a good reason depending on a few factors. Your HELOC carries an adjustable rate; therefore if rates go down, so should your payment amount. If rates are steadily rising, however, and especially if they’re expected to continue to rise, refinancing your HELOC back into your first mortgage, or into a closed-end second mortgage with a fixed rate, might make the most sense.
If you originally took out your HELOC for a project or expense such as college tuition or home remodeling and that project is now completed, you may just be looking to refinance your first mortgage and your HELOC into one loan with a low fixed rate to avoid the potential for a rising rate and increasing payments in the future. Having a single loan with a fixed rate offers you the satisfaction of knowing that your payment amount will never go up.
Conversely, if you’ve come to the conclusion that you need to be able to draw more from your HELOC than you’d first thought, you can refinance it or, more correctly speaking, take out a new HELOC for a greater value. Keep in mind that you’ll have to pay additional closing costs, and that unless you can start making much larger payments, it will take you longer to pay back the larger HELOC amount. You should carefully consider your needs and options before opting for a HELOC with a larger credit line.
When the time comes to refinance your HELOC, don’t hesitate to consult with a financial planner or a loan officer. These professionals can advise you on whether your reasoning is financially sound and about the kind of program you should choose to meet the needs and goals you’re setting for yourself.
For more articles on HELOC, visit: http://www.bills.com/refinancing-your-heloc-article/
Justin has 5 years of experience as a financial adviser; his key areas are loan consolidation, debt relief, mortgages etc. For more free articles and advice visit http://www.Bills.com.
No Comments | Tags:Stated-Income Loans - How Common Were They?
Posted January 25, 2009 – 10:00 pm in: Foreclosure, Mortgage rates, Mortgage recovery, rating agencies, refinanceOne unique phenomenon of the Great Housing Bubble was the utilization of stated-income loans, also known as “liar loans” because most people were not truthful when stating their income. When house prices were going up, greed motivated many people to buy homes to capture appreciation. Actually having the income to qualify for a loan was a limitation to participating in the financial mania. Stated-income loan programs eliminated this barrier and allowed people to borrow as much as they wanted without concern for home much money they made to cover the payments.
Loan documentation is usually a routine part of obtaining financing. Lenders ordinarily require a borrower to provide documentation proving income, assets and debt. However, during the final stages of the Great Housing Bubble, loan documentation was seen as an unnecessary barrier to completing more transactions, and loan programs which circumvented normal documentation procedures flourished. The fact that these programs existed at all is remarkable proof of the risk lenders were taking through the relaxing or outright elimination of lending standards.
Eighty-one percent of Alt-A purchase originations in 2006 were stated-income, and 50% of subprime originations in 2005 and 2006 were stated income. Stated income loans increased from 18% of originations in 2001 to 49% in 2006 according to Loan Performance. In a related study by the Mortgage Asset Research Institute, 60% of stated-income borrowers had exaggerated their incomes by more than 50%., Obviously, lying about one’s income to obtain a loan is not a conservative method of financing a property purchase.
The stated-income loan was originally provided to borrowers such as the self-employed who most often do not have W-2s to verify income. When these loan programs were first started, they were not made available to borrowers with W-2s as the transparency of the lie would have been obvious to all parties.
During the bubble rally, this loan was made available to anyone, and lying was not only encouraged, borrowers were often assisted in fabricating paperwork by aggressive loan officers and mortgage brokers. Since the loan could be packaged and sold to investors who had no idea what they were buying, there was a complete lack of concern for whether or not the borrower actually made the money stated in the loan application and thereby could actually make the payments on the loan.
Everyone involved was raking in large fees, the borrower was obtaining the real estate they desired, and for a time, the investor was receiving payments from the borrower. As long as prices were rising, everyone benefited from the arrangement. Of course, once prices started to fall, borrowers did not want to continue making payments they could not afford, and the whole system collapsed in a massive credit crunch.
Stated-Income loans were one major component of the Great Housing Bubble. The use of these loans helped inflate the housing bubble, and the elimination of these loans helped deflate it. Many people where occupying real estate they had no capacity to pay for, and most of these people ended up in foreclosure.
<a href="http://www.thegreathousingbubble.com/author/">Lawrence Roberts</a> is the author of The Great Housing Bubble: Why Did House Prices Fall?
Learn more and get FREE eBooks at: <a href="http://www.thegreathousingbubble.com/">http://www.thegreathousingbubble.com/</a>
Read the author's daily dispatches at The Irvine Housing Blog: <a href="http://www.irvinehousingblog.com/">http://www.irvinehousingblog.com/</a> Visit <a href="http://www.articlepool.com/statedincome+loans++how+common+were+they-32158">Stated-Income Loans - How Common Were They?</a>.
Pick-a-Pay Option ARM Loans - What Are They?
Posted January 23, 2009 – 10:00 pm in: Foreclosure, Mortgage rates, Mortgage recovery, rating agencies, refinanceThe Negative Amortization mortgage (aka, Option ARM or Neg Am) is the riskiest loan imaginable. It has all the risks of an interest-only, adjustable-rate mortgage, but with the added risk of an increasing loan balance. Using this loan, there is the risk of not being able to make the payment at reset, and the borrower is much more at risk of being denied for refinancing because the loan balance can easily exceed the house value. In either case, the home will fall into foreclosure.
An Option ARM loan provides the borrower with 3 different payment options each month: minimum payment, interest-only payment, and a fully amortizing payment. In theory, this loan would be ideal for those with variable income such as sales people or seasonal workers. This assumes the borrower has months where the income is more than the minimum, the borrower sees a need in good times to make more than the minimum payment and the borrower understands the loan. None of these assumptions proved to be true.
The Option ARM is one of the most complicated loan programs ever developed. It was heralded as an innovation because it allowed people greater control over their monthly payments, and it provided greater affordability in the early years of the mortgage. Twenty-nine percent of purchase originations nationwide in 2005 were interest-only or option ARM. The percentage in California was much higher. The proliferation of this product is largely responsible for the extreme prices at the bubble’s peak.
When confronted with several different prices for the same asset, people naturally will choose the lowest one. This common-sense idea apparently escaped the innovators who developed the Option ARM. Studies from 2006 showed that 85% of households with an Option ARM only made the minimum payment every month. Many could not afford to pay more, and many more could not see a reason to pay more. Most simply thought they would refinance when the payments got too high.
These loans are also very confusing. The interest rate being charged to the borrower adjusts frequently, and the payment rate (which is not correlated to the actual interest rate being charged) also changes periodically. The separation of the interest rate charged and the interest rate paid is what allows for negative amortization, and it also creates a great deal of confusion.
The use of negative amortization loans with artificially low teaser rates allowed borrowers to obtain double the loan amount with the same monthly payment: double the loan; double the purchase price. This is how prices were bid up so high so fast without a commensurate increase in wages during the Great Housing Bubble. The elimination of these loans is also the reason prices collapsed.
<a href="http://www.thegreathousingbubble.com/author/">Lawrence Roberts</a> is the author of The Great Housing Bubble: Why Did House Prices Fall?
Learn more and get FREE eBooks at: <a href="http://www.thegreathousingbubble.com/">http://www.thegreathousingbubble.com/</a>
Read the author's daily dispatches at The Irvine Housing Blog: <a href="http://www.irvinehousingblog.com/">http://www.irvinehousingblog.com/</a> Visit <a href="http://www.articlepool.com/pickapay+option+arm+loans++what+are+they-32155">Pick-a-Pay Option ARM Loans - What Are They?</a>.
Conventional 30-Year Amortizing Mortgage - Why use It?
Posted January 20, 2009 – 10:00 pm in: Foreclosure, Mortgage rates, Mortgage recovery, rating agencies, refinanceA fixed-rate conventionally-amortized mortgage is the least risky kind of mortgage obligation. If borrowers can make their payment, a payment that will not change over time, they can keep their home. At the end of a predefined term, the original funds have been paid in full, and the loan is discharged.
After World War II a series of government programs to encourage home ownership spawned a surge in construction and the evolution of private lending terms resulting in the 30-year conventionally amortized mortgage. This mortgage generally required a 20% downpayment, and allowed the borrower to consume no more than 28% of their gross income on housing. These conservative terms became the standard for nearly 50 years. Lending under these terms resulted in low default rates and a high degree of market price stability.
There were experiments with various forms of exotic financing during this period, particularly in markets like California where price volatility required special terms to facilitate buying at inflated pricing. The instability of these loan programs was demonstrated painfully during the deep market correction of the early 90s in California characterized by high default rates and lender losses.
In residential mortgages, a 30-year term is most common, but if bi-weekly payments are made (two extra per year), the loan can be paid off in about 22 years. If borrowers can afford a larger payment in the future, they can increase the payment and amortize over 15 years and pay off the mortgage quickly.
The best way to deal with unemployment or other loss of income is to have a house that is paid off. Stabilizing or eliminating a mortgage payment reduces the risk of losing a house or facing bankruptcy. Unfortunately, payments on fixed-rate mortgages are higher than other forms of financing, so borrowers often opt for the riskier alternatives.
Exotic loan financing terms became widespread during the Great Housing Bubble. These terms proved to be unstable, and many borrowers defaulted on their loans. As more and more people defaulted, the lenders stopped lending money under these terms, and real estate values plummeted. Of course, this caused even more people to default, and prices fell into a downward spiral. Lower prices distressed more homeowners who went into foreclosure which drove prices even lower. None of this would have happened if fixed-rate conventionally-amortized mortgages were the norm rather than the exception.
<a href="http://www.thegreathousingbubble.com/author/">Lawrence Roberts</a> is the author of The Great Housing Bubble: Why Did House Prices Fall?
Learn more and get FREE eBooks at: <a href="http://www.thegreathousingbubble.com/">http://www.thegreathousingbubble.com/</a>
Read the author's daily dispatches at The Irvine Housing Blog: <a href="http://www.irvinehousingblog.com/">http://www.irvinehousingblog.com/</a> Visit <a href="http://www.articlepool.com/conventional+30year+amortizing+mortgage++why+use+it-32153">Conventional 30-Year Amortizing Mortgage - Why use It?</a>.