Posted on 09/16/2005 8:09:51 AM PDT by Mini-14
Lenders are pushing risky loans with low payments. Desperate home buyers snap them up. Worried yet?
NEW YORK (MONEY Magazine) - Feeling nervous about real estate prices? Who can blame you? Even if you haven't bought or sold lately, the constant debate over whether or not there's a housing bubble is probably making you uneasy.
(Excerpt) Read more at money.cnn.com ...
There is both a benefit and a danger in the low payment interest-only and "negative amortization" loans.
They've always existed for "niche" markets but really aren't for everybody as some lenders and brokers are pushing them.
John and Jane Public that make $60,000 a year with two kids, looking for a decent $150,000 home in the suburbs to raise their kids in should not do this loan. Either a fixed rate, or longer period ARM (like a 5 or 7 year) would be best.
The 6-month variable interest only loan (and similar types like the "Pay Option" ARMS) is really best for either the professional investor who can make more money in the market than by paying down principal, or for the person who knows that they will sell the property within a short period of time and will not build much equity anyway. However, these are still risky with less than a 5 or ten percent down payment especially in areas where real estate is overpriced and more likely to crash (coastal blue states.)
ARMs are also good in the subprime market to allow someone to improve their credit to refinance to a better fixed rate later-BUT-that doesn't work when people don't improve their credit...and as they say, old habits die hard.
Bottom line. The creative loans have a purpose. But, as a mortgage loan officer myself, I don't offer them to someone unless they request it (and seem to really know what it is already) or it really would work well for them.
Thanks for an interesting analysis.
My father built everything he has on such interest only loans. They are good when you are fairly sure everything is really underpriced in your market, and you want to get into several properties for as little money as possible.
He built a portfolio of many apartments at the time that supported him for years, and are now suppling him with a comfortable retirement.
But they caused my mom to have quite a few sleepless nights.
"But they caused my mom to have quite a few sleepless nights."
He knew the risks, and took a calculated risk himself. It paid off for him, likely because he studied the local market prior to making the decision, and really stayed on his toes to make the numbers work.
I don't think there are too many "average" homebuyers that are as aware of the risks. They're just looking at the low payment. Most will make out OK, but some will get burned; here's to hoping that not too terribly many lose their shirts, which could reverberate throughout the economy.
I live in Utah which leads the nation in personal bankruptcy! All over my area there are families who aren't making over $50,000 a year moving into $250-300,000 homes off of these mortgages. Then they get second and third cars, home entertainment systems, etc..., basically liviing way beyond their means . At some time the piper is going to come calling and if it does crash, they'll be owing for the rest of their lives.
Matt
That's what I think is driving it too.
You couldn't buy a house for a family in our county for $150,000, a 2/1 in a decent neighborhood will run around $180,000. 3/2's start around $225,000 and that's probably a fixer upper 3/2.
I feel sorry for young people trying to get into the home market today because even though rates are low, house prices, plus the cost of property tax and insurance, seem almost unaffordable to someone with a middle class $50,000-70,000 income.
My son is 17, hopefully, things will cool down by the time he's ready to buy a home.
Good point. With the new bankruptcy laws, I would guess the Fed is way ahead of the curve on this one. People who used to be able to get out of those mortgages may find themselves unable to do so.
Does anyone out there know what the new bk legislation says about mortgage defaults?
Hopefully. Actions should have consequences.
However one of the reasons home prices go up is because of the cheap financing.
It's a catch 22. Easy financing puts food on my table. And I could easily do like some of these guys, just shove these loans down everyone's throat, make a killing, and be jobless in a year.
Or-I could do it the way I have been. Make what works out to still a very good income, while treating people fairly and ethically so that they send me their friends and relatives, and come back to ME when they need something else like an equity loan or refinance, because of the trust and relationship I have built.
I know the feeling. I can't see the value in a 2/1 for 180 large. I won't do it I don't care. I'll live in my apartment for years before I pay 180 grand for a 2/1 on a postage stamp of a lawn.
"Does anyone out there know what the new bk legislation says about mortgage defaults?"
There's not a great deal of info that I've been able to find. As best I can tell, in the event of foreclosure, mortgagee will be on the hook for the difference between foreclosure sale price and the original note that was defaulted upon.
I see nothing wrong with zero down loans. Most of the time the benefits of home ownership still outweigh renting for those borrowers (I don't want to get into the discussion of whether you really own when it's mortgaged-that's a whole different topic).
Where it becomes dangerous is when you couple zero-down with interest only payments, short period ARMs, overpriced markets, and borrowers with marginal credit.
"Where it becomes dangerous is when you couple zero-down with interest only payments, short period ARMs, overpriced markets, and borrowers with marginal credit."
Social engineering-driven lending, in other words.
Which of course they are never going to have. So the law only makes things worse, really. The lenders can't get blood from a turnip and now in addition the borrower's life is hell, or moreso that what it already would be.
Aw, Hell. What is a "negative amortization" loan. That's not really what I think it is, is it?
Turn on the radio, and all you hear is one stupid loan pitch after another. Home Equity Lines of Credit... Home Equity Credit Consolidation... Interest Only Loans... 100-Year Mortgates. Who goes for these things?
Luckily, around here you can still get a decent 2/1 in an average suburban neighborhood for 105k.
It also depends on where you live, what rents are going for, etc.. $180K purchase with 20% down at 5% (5 year ARM) means you are paying about $1,000 a month with Principal, Interest, Insurance and Taxes. You get to also write off about $700 a month towards taxes. Effective payment is $850 plus/minus a few $$$.
What's the cost of rent for a 2/1?
The first two are quite useful. Home improvements or paying off credit cards. Is it still debt? Yes, but it's cheaper and easier to manage and still better than bankruptcy or being destitute. The problem is that so many people run the cards right back up.
The last option is for people stupid enough to live in places like San Francisco where a 2 bedroom mobile home costs 400 grand.
Negative Amortization means that your "minimum" payment (the payment they actually bill you for that you have to send) is less than the amount of accrued interest. In other words, if you never pay more than the minimum your balance actually INCREASES...
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