New Jersey bankruptcy Article
THE NEW YORK TIMES
March 31, 2007
Homeowners, Call Your Bankers Before They Call You
By DAMON DARLIN
The day of reckoning is near for millions of homeowners who financed their dream house by taking out an adjustable-rate mortgage.
Rates are resetting higher, and in some cases, the monthly mortgage payments that were so affordable in 2004 or 2005 when the loan was signed will push homeowners to their limit or beyond.
What is a borrower to do? You can try to make ends meet by cutting back on expenses. Shut off HBO and the premium cable channels, skip your Starbucks run and bring your lunch to work rather than eating out and you might have enough to cover the bump-up in your mortgage payment.
Don’t despair. There is another way to look at this problem. You, the borrower, are not powerless. ³Consumers get the feeling it is a lost cause to do anything, but it is pretty much the opposite,² said Harry H. Dinham, president of the National Association of Mortgage Brokers. ³The most motivated people are the lenders.²
Homeowners should seek a lower rate or switch to an interest-only loan for a spell. They might even ask for more time to pay, just as long as it does not create ³negative amortization,² that is, letting the amount owed increase with each payment.
Mr. Dinham has been through six real estate cycles since 1967 and every time the market goes sour, he said, consumers make the mistake of avoiding the loan officer.
But know this: lenders do not want to get stuck with a property. They have to maintain it and then try to sell it on the open market, usually at a loss. Some industry analysts say that it costs a bank an average of $40,000 to foreclose on a loan. That amount gives the borrower that much more room to negotiate.
About 1.1 million homeowners will lose their homes to foreclosure because of a mortgage resetting to a higher rate over the next six to seven years, said Christopher L. Cagan, director for research and analytics at First American CoreLogic, a mortgage industry research firm in Santa Ana, Calif.
He studied two databases with information on 58 million mortgages and sees a wave of mortgage resets moving through the system, first the mortgages with low teaser rates, followed by subprime loans and finally, as the decade comes to a close, the loans to homeowners with good credit.
This pig-through-the-python transition is not enough to hurt the overall economy ‹ about $112 billion will be lost, he calculated ‹ but it is a world of pain for the households involved.
Almost all of the teaser loans issued this decade ‹ those mortgages offered for less than 3 percent ‹ have reset in the last two years. Rates for most of the homeowners with good credit who obtained adjustable-rate mortgages during the boom years of the housing market will reset from 2008 to 2010. Mr. Cagan said he thought only 7 percent of these loans would default because of the reset.
He concluded that ³2008 is the pinch year.² If he were a gambling man ‹ or a real estate investor, but really, what¹s the difference? ‹ he said he would start buying residential properties in 2009.
The bulk of the subprime adjustable-rate mortgages, those made to people with less-than-sterling credit reports, are resetting this year and next. About 12 percent of the subprime mortgages will default, he predicted.
Subprime borrowers are particularly vulnerable to resets because the interest rates they were originally paying were higher than market rates. People who were subprime borrowers are, by definition, those who have had trouble with money. Some were already on the edge when they borrowed. For instance, an adjustment on a $300,000 loan to 9.5 percent from 7 percent leads to a 26 percent increase in the payment, to $2,523 from $1,996.
The way to look at resets, whether they are subprime or prime, is what percentage of income is going to the mortgage. Assume that the lender determined when it granted the loan that the borrower was paying 30 percent of income to mortgage payments. Using the example above, upon reset, the borrower is paying 7.8 percent more of their income to the mortgage, that is 30 percent times 26 percent.
It becomes scarier when a borrower originally devoted 50 percent of income to mortgage payments, a rate not uncommon on the coasts where housing is more expensive. Multiply 50 percent times 26 percent and you reach the sad fact that the person has to pay 13 percent more of income to cover the mortgage. ³At 50 percent of your income there is not that much you can cut,² Mr. Cagan said.
Catherine Williams, the vice president for financial literacy at Consumer Credit Counseling Services in Houston, said, ³We can all have a great garage sale, but, sadly, that only works once.² The smart thing to do is to take action before the lender does. The homeowner should initiate the contact with the lender. So first thing: know when your loan resets are scheduled and by how much and how often. Read those loan documents you got at closing.
Then 90 to 120 days before the loan resets start talking to the lender. Lenders usually approach their borrowers 45 days before a reset. That is not enough time for a borrower to act. Here is an online calculator so you don¹t even have to bother to count the days by hand: www.timeanddate.com/date/dateadd.html.
If you started out with a 5.5 percent interest rate, it will adjust to something like 7.75 percent. ³If you want to wait and get that rate you can,² said Joe Rogers, executive vice president for the sales and service systems office of Wells Fargo Home Mortgage. ³Or you could get a 6 percent fixed loan now.²
The dynamics are slightly different when you have no equity in your home or the value of your home is less than the amount of your loan. As a negotiating ploy, you could suggest to your lender that you are willing to just walk away and rationalize the mortgage payments you made as monthly rent payments: tax-deductible monthly rent payments. You wouldn¹t want to go through with it because you will seriously damage your credit. It¹s a black mark that remains for seven years. Of course, by then the real estate cycle could be back to where it was in 2004 and lenders will be once again throwing loans to anyone.
But tell your lender that¹s what you intend to do. What you are seeking is what¹s called a deed in lieu of foreclosure. Hearing that, the lender may find more motivation to work something out.
Another strategy to suggest to the lender is something that is called a temporary buy down, Mr. Rogers said. The lender locks you into a rate that is slightly higher than the going rate for a 30-year fixed mortgage. Right now that would be 6 7/8 percent. In the first year of the loan, the payments are set as if you are paying a loan at 4 7/8 percent. In the second year it jumps to 5 7/8 percent. In the third and successive years it is 6 7/8.
You would want this only in a circumstance where you are buying time and expect something to happen within three years that will bail you out. Not that you hope or pray something will happen in that time, but that you actually know you will get a big bonus, an inheritance, or a transfer so you can sell the house.
If your rate does not reset until 2009 or 2010, just sit tight. A lot can change in two or three years. If you don¹t believe that, look at how the housing market has changed from 2005.
If there are more signs that the Federal Reserve will begin to lower interest rates, as you near a reset it might be worth considering riding an djustable-rate mortgage down. A fixed rate is viewed as less risky. The spread between the opening rates on A.R.M.¹s and those on fixed-rate loans are not very wide. Mr. Rogers said of taking an A.R.M., ³that¹s just rolling the dice; if the rates fall, just refinance again.²
But if you worry that you might not be able to refinance as rates drop because a recession might decrease the equity in the home, the adjustable-rate mortgage will allow you to benefit from the lower rates. Erik Hurst, a professor of economics at the University of Chicago Graduate School of Business, said homeowners who took out A.R.M.¹s benefited from lower-than-market rates. ³If the Fed cuts rates, they¹ve won again,² he said.
Is there any good news in this topic? Mr. Cagan, the researcher at First American CoreLogic, found that if house prices went up 1 percent nationally, 70,000 fewer loans would foreclose because of resets.
Of course, the opposite is true as well, he said. Every 1 percent fall in national prices drives an additional 70,000 loans into foreclosure. And for right now, at least, house prices are falling.
FOLLOW-UP: Fidelity Investments said this week that it had calculated the amount of money an American retiring at age 65 would need just for health care during their twilight years: $215,000
It was supposed to be a scary number to encourage Americans to save more, but spread over the 20-year life expectancy that Fidelity also predicts, that comes to $10,750 a year. Fidelity said 27 percent of the average Social Security check would cover that expense.
The frightening part was another calculation. With the rate of health costs rising at more than twice the pace of general inflation, Fidelity said in 20 years, half of the Social Security check would be needed to cover health care costs.
E-mail: yourmoney@nytimes.com