Mortgage Payment Program

This past week the Federal Reserve announced the results of the financial “stress test” it conducted on the top financial institutions. Of the 19 reviewed, 9 came through with passing marks. I was personally pleased to see that our primary business banking partner J.P. Morgan Chase Bank came through with passing marks, but that was not very surprising. Jamie Diamond and group have outperformed their banking peers for several years in terms of both results and sound business decisions. It also confirms that we made a good decision in choosing them as a banking partner for our clients. Fed chief Bernake was quoted as saying “the results… should provide considerable comfort.” Even though more than half of the institutions tested need to raise capital, the quote makes sense in that the institutions are still viable and not at risk of being shut down. But I wonder if the average American who is banking with or has funds held by a small regional bank which was not put through the stress test is comfortable.

This past week, I was talking with a friend who has some financial problems and was looking for advice.  He recounted the same story I’ve heard him tell several times before: taking a new, better paying job, moving his family to a new state, only to find that he is making less than he was before.  It seems he and his wife did not carefully consider all of the factors for the new job.  Easy for me to say, looking back on events that happen to someone else, but these are common mistakes many people make today.

Some of the items that impacted him no one could have predicted. One big factor was the cost of commuting. In order to get a home in the school district he and his wife wanted their kids to attend, he had to accept a longer (57 miles each way) commute – a huge jump compared to his previous 7-mile commute. Prior to the move when gas prices were still low, the commuting cost seemed like it would fit in their budget.  Last summer and fall, gas prices rose significantly, the long commute, and poor fuel economy in his mid size SUV added up to a huge expense they had not accounted for.

However, the biggest impact was not taking into account the pay-cycle for his new employer.  He had always been paid semi-monthly and the budget he and his wife adopted over the years conformed to that 1st of the month and 15th of the month cycle.  His new employer used a biweekly, every-other-Friday pay-cycle. Sure, that means “2 extra paychecks a year”, but it also meant that his 10% annual pay increase for his new job did not actually show up on a month-to-month basis.  In fact, with the cost to commute, property and sales tax hikes all factored in, they actually made less money!

For years he would tell me, “I’m not sure why people would use your program” and I would always respond the same way “It is not right for everyone, but really works well for those who need it.”  He now understands exactly what I meant.  Cash flow is a key part of any budget.

Depending on your point of view, the Fed has been on either a spending spree or an investment spree that is unheralded.  They are spending trillions of dollars –sprinking a few billion here, say in bailing out insurance firms like AIG, a few more billion on the auto industry, a few more billion on TARP funds to bail out failing banks, and a few billion more on seemingly anything that they hope will either spark a short rally on Wall Street and/or the spirits of the American people who are collectively worried about the long term implications of our economy.  All this spending raises a two very big questions:

1. How much money are we spending? We all know a billion is a big number, and a trillion is even bigger. I am not sure most Americans grasp how big these numbers really are.  How big is a trillion?

1 million seconds = 12 days
1 billion seconds = 31 years
1 trillion seconds is 31,688 years

Of course, when we look at the Fed spending we are talking about dollars instead of time.  Imagine you were paid $1 for every second of the year. And look at those figures again. It would take you 31 years to earn a $1 billion at a rate of $1 per second.  Even at the rate Bill Gates earns money, it would take him thousands of years to earn $1 trillion – an amount the Fed committed to invest one day last week.  The final tally on the cost for stimulus and bail out could very well come in between $3 trillion and $5 trillion.

2. Where is my bailout money?  The governments original plan invest TARP funds in banks in order to help them get the toxic assets off their books and provide liquidity so they could resume lending does not seem to have worked. In mid March, they announced another couple round of funds to buy up Fannie Mae and Freddie Mac mortgage backed securities in order to provide funds for new mortgage lending and to buy $300 billion in Treasuries over the next 6 months to influence lower interest rates for mortgage loans. Neither of these are really “bail out” plans for homeowners, but the combination may result in record low interest rates for homeowners who qualify to refinance.

For homeowners who are delinquent and/or on the verge of foreclosure, there is the FHA Hope for Homeowners (or H4H) program.  This plan was rolled out in late 2008, and is designed to provide refinance options to qualified homeowners who need help. The program can reduce the amount owed down if the new appraisal comes in below the amount owed – a huge help for people in markets where property values have plummeted.  Of course, there are restrictions and qualification the borrower must meet.  To find out more about the H4H visit www.fha.gov.

In February, President Obama announced plans to expand the loan program to help homeowners struggling to keep up with payments.  Those programs are in development now by Fannie Mae and Freddie Mac and should be available to homeowners in a few weeks, once the two GSE’s work through the systems issues of approving loans that normally would fail several of the standard automated underwriting checks in the existing software.

All you homeowners out there, as you read the real estate headlines and wonder how and if we are ever going to see a full recovery in the housing sector, I want you to think about the factors that went into you qualifying for your home.  Most of us had to fully qualify for our mortgage based on a full documentation mortgage. The mortgage company looked at several key items: your ability to pay the loan which was based on your income, your willingness to repay the loan which is based on your credit score, and whether or not the collateral (the home you put the mortgage on) supports the price you were willing to pay.

The first two factors are pretty straightforward.  You give them bank statements, pay stubs, and tax records to validate your income and ability to pay.  Your credit score reflects your payment history on your previous credit lines and loans. Those who want to blame the sub-prime market for the housing crises can look at these tow factors as the driving cause.  Sub-prime loans often overlooked the ability to pay because they did not require the borrower to fully document their income or assets.  Lenders were also willing to accept a lower credit score – and potential lower ability to pay – in exchange for higher fees and higher interest rates.  There is not denying the impact bad sub-prime loans have had one the housing market, but they are also a smaller percent of the overall loans made over the last 5-6 years. There is also a disturbing trend of people who had strong documented incomes and solid credit scores whose homes are now in foreclosure despite that.  That is where home values come in.

Home values for mortgages can be based on many different things.  Most often the value is based on an appraisal made by a professional appraiser.  The appraiser visits the home, evaluates the items inside and outside the home that make it either similar or different than the other similar homes in the area, the evaluate recent sales of similar homes locally, and then submit a report documenting their opinion of the home’s value.  This is not an exact science, but a trained, experienced local appraiser is one of the best sources to obtain an accurate opinion. Unfortunately, loan officers and brokers who source the appraiser work out often put tremendous pressure on appraisers to “hit the number” or bring in an appraised value that supports the mortgage amount requested by the borrower. When this happens, the collateral of the home is not accurately reflected and when the market slows down, as it has in South Florida, California, and Las Vegas then the overstated home values become a problem.

People who are paying as agreed see neighbor’s homes foreclosing on a regular basis and the number of for sale signs in the community seems to grow daily.  Eventually, these people ask the question: are we better off just walking away from this home since it is now worth $200,000 less than what we bought it for?

Some economist and real estate experts predict another wave of foreclosures as homeowners in down markets become frustrated, disillusioned, and ultimately walk away from their homes and good credit just to get out from under the decreased home values. Whether, this happens or not remains to be seen. One thing is for sure; expect additional oversight in all areas of the home lending process in the future.

Some lenders are investors are now looking to sophisticated computer models to determine the home value.  These models are not new – in fact millions of American’s use scaled down versions online to get an online estimate for their home values by going to sites such as Domania.com and Zillow.com.  What you may not know is that the data companies that source these models have robust versions that can accurately calculate the homes value.  Some recent models have been referred to as “hedonic” models.  Based on the word “hedonism” which means to derive pleasure, these models look at the aspects of the home where people derive pleasure from using them.  This includes things like a gourmet kitchen with granite counter, luxury master suites, upgraded roof, and in ground swimming pools.  The models gather information recorded in public record files, apply unique values for each item, and then calculate the value compared to other homes.  The process is similar to that applied by the professional appraiser but is completely automated and free from the human bias.  These automated valuation models are fairly common and may be leveraged more frequently to determine the home value for underwriting purposes n the near future.

This past weekend the inevitable happened: the government stepped in to take over Fannie Mae and Freddie Mac. The two companies were placed into a conservatorship in an effort to bring some stability to the housing and mortgage market. Who are the winners and losers from this landmark move?

Winners: The investors. By investors I mean the companies that buy the debt or securities Fannie and Freddie created from the mortgages they funded. The federal government is now responsible for losses on these investments – a move which the government hopes will attract investors back to mortgage securities and create the much needed funds to fuel mortgage originations.

Losers: The shareholders. The shares prices have been in a steady decline and the move to take over the companies is not a move to buy out the shareholders. People who invested in Fannie Mae or Freddie Mac stocks are likely going to continue to be upside down (lose money on their investment) until the future of these entities is decided and, should they remain public, regain value in their share – meaning a long, long time.

As for homeowners… we will have to wait and see. With the government stepping in that should clear the way for mortgage rates to drop down. However, lending standards are still up in the air. We may not get a decision on how conservative or liberal the lending standards will be until after the next president is elected. My guess is we are likely to see stricter underwriting guidelines that are more inline with what these two companies used originally; requirements for larger down payments and more conservative debt to income ratios which may make mortgages more difficult to obtain for many.

Economics 101 tells us that when supply is high and demand is low you have a buyers market. That is precisely what you see in many, if not most, real estate markets in America. What’s more, home values have dropped in most markets as well. Many experts feel that real estate values are at or near there bottom levels. Mortgage rates are also still quite low making loans very affordable. That means there are deals available for those in the market and able to take advantage of them.

How do you know if this is the right time for you to make a move in this market? The easiest way is to talk to a local Realtor who is active in your local market. They will have details on the number of homes on the market, average days a home sits on the market, comparable home sales for the last few months showing you the current trend (are homes still going down in price or have they platued?), and other relevant details that will help you make a decision. If you are more of a do-it-yourself person, there are a variety of websites available with powerful tools to help you search. Sites such as Realtor.com can help find homes available in your market. Zillow.com is a great tool for finding home values. Foreclosure.com is another interesting site to search out homes that are either in foreclosure or pre-foreclosure in your market.

Since some of the lending guidelines may have changed since you last purchased a home, it is a good idea to talk with a loan officer early in the process about the qualification criteria.

In writing blogs about the mortgage and housing markets lately, it has been difficult to find anything not relatively depressing to write about. There simply is not a lot of good news about housing these days. This week, for the first time in what seems like months, I saw articles with at least a glimmer of good news.
New home sales rose unexpectedly in April over March but still remained near historically low levels. According to a key government report on the battered housing market, April sales came in at a seasonally adjusted annual rate of 526,000, up 3.3% from March. The reading was above the consensus forecast of 520,000. Another small bit of potentially good news is that, according to the same report, The median price of a new home sold in April was $246,100, up 1.5% from $242,500 a year earlier.
Like I said, it is a little good news. Unfortunately, that good news is still offset by the reality that April home sales were down 42% from their level a year earlier so that small rise in home sales prices could be skewed slightly and may not accurately reflect an uptick in home values.
By no means does this indicate the end is in sight to the housing slump. Far too many other key indicators point to tough times ahead for a while longer in the housing sector. I just thought it would be nice for a change to find some good news to talk about.

The Federal Reserve continued their long string of lowering rates and recently lowered rates again. The question I have been getting asked a lot lately is “Will this reduction lower mortgage rates and help with the mortgage crisis?” My answer to them is “Not so much.”

For those who watch mortgage rates closely have noticed that mortgage rates have actually risen slightly after of few of the recent Fed rate drops. Why? The rates that the Federal Reserve has been lowering are the rates at which banks borrow money. In a simple world, if the bank has access to cheaper funds that should mean that it trickles down to the consumers and drives down our cost to access funds in the form of loans. The mortgage market is much more complicated than that with access to funds, and the rates, driven mostly by Wall Street and their demand to buy and sell mortgage backed securities. This demand still remains low largely due to the still existing issues around declining home values and the still rising delinquency and foreclosure rates.

So, if the drop in rates by the Fed isn’t going to help the current mortgage and housing climate, what will? The best answer I can offer is time. At some point the inventory of houses will begin to shrink and home values will stabilize and the housing market will begin to recover. The silver lining? For those people who have equity in their homes – either from buying at a low point or paying down the principal balance faster – or cash to put down on a home there are a lot of bargains in the market to be had.

We are starting to see the ripples of change come from the mortgage crisis. (See the blog on Mortgage Meltdown). One of the changes is that mortgage lenders are changing how they compensate brokers for the loans the broker originates. Since brokers have been a party to nearly 7 out of 10 mortgage transactions, any impact to brokers is likely to trickle down to the consumers getting loans. The question up for debate is how will these changes impact consumers who are trying to get mortgages.

Some quick background in case you are unfamiliar with the roles of lenders and brokers. Mortgage brokers act as independent sales agents in the transaction. They sell lender’s loan products and use funds from the lender or a line of credit from a mortgage banker in order to fund the loan. The broker is paid a commission for their role in the transaction. The commission the broker earns is based on (1) fees paid by the borrower including points and junk fees, (2) the rate the broker charges the borrower (in some cases the rate is higher than market rates and the broker earns a yield spread premium commission), and (3) pre-paid penalties (if any) often earn additional commissions. Typically people with lower credit scores, or who have had bankruptcy and/or foreclosures (those classified as subprime) will payer higher points, higher rates, and be subject to pre-payment penalties – a trifecta for brokers looking to maximize their commissions.

New mortgage broker requirements have been adopted by a number of lenders in response to the subprime crisis. Companies such as Wells Fargo & Co. and Provident Funding Associates LP both mandating that brokers disclose upfront how much borrowers will pay in fees as well as the yield-spread premium to be paid by the lender. Additionally, Countrywide Financial Corp. lowered its maximum broker compensation to 4 percent of the mortgage amount, down one percentage point.

How will these changes impact consumers? The disclosure requirements should make the fees charged clearer to the borrowers, especially fees, like yield spread premiums, that were difficult for borrowers to identify. The lower cap on fees paid may bring mixed results to borrowers. On the one hand there, it reduces the maximum fees a borrower will have to paid to obtain a loan making the loan more affordable. On the other hand it reduces the brokers incentive to help borrowers in smaller loans. Since many of these loans are the result of consumers identified using data sets for direct marketing campaigns, brokers may raise their minimum loan requirements on these data sets meaning many of these consumers will have to proactively seek out loans on their own rather than get offers via phone and mail. It could also increase the brokers sales attempts to raise the loan amount by selling the borrowers on paying off more debt and taking out more cash than they need to in order for the broker to make an acceptable commission.

We are already seeing a drop in the percent of loans created by brokers – down now to approximately 40% of all mortgage closed. Less broker loans could mean less competition which, as the theory goes, could mean higher fees to consumers. Only time will tell if these changes are moving things in the right direction for consumers or not.

The mortgage crisis seems to be headline news on a daily basis now. What seems to be driving the free fall? There are two key factors in play. First is the number of loans that are adjusting upwards. Many people took out adjustable rate mortgages with low “teaser rates” that are adjusting to market rates. Even though interest rates are low, the regular rate is still higher than the teaser rate that is causing “payment shock” for many homeowners. The second reason is that home values in many markets continue to decline. These markets are flooded with foreclosures and people looking to get out of a home they can no longer afford. This growing supply of homes far outweighs the current demand that is causing prices and values to fall.

What is a homeowner to do? Pay down your principal balance before your payment jumps up! Paying down your balance on an adjustable rate mortgage will lower the amount of your new mortgage payment when your rate adjusts – often times lowering your payment amount even when rates move up. Paying down your balance also helps to maintain equity in your home.

No one knows for sure how long this poor mortgage market will last, but it will not last forever. When markets finally adjust to normal growth rates, those who have paid down the principal will benefit most by having more available equity to use on moving up to a bigger home or leverage for significant expenses like college or home improvements.

Equity Plus is a great, safe, and easy way to significantly reduce the principal in your home. The program can be tailored to exactly meet your personal budgets and meet your financial goals and objectives. To find out how you can reduce the risk of a bad market by using Equity Plus, visit www.equityplus.net or call 1-800-251-1315.