Crazy loans: Is this how the boom ends?

Money Magazine ^ | September 15, 2005 | Cybele Weisser

[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.

[TheOracleAtLilac]

Calling all cars players

[Sensei Ern]

You are correct. Here in Silver SPring, MD, you can't buy a town house for $150K.

The house we are renting is $400K and is nothing to look at. The same house 5 years ago went for $200K.

Still, if I could find a decent house to purchase that I could afford, I would. Then, when my wife and I retire in 20-30 years, we could sell it and buy a house in a cheaper market and live off the interest of the remaining money.

[RegulatorCountry]

"The last option is for people stupid enough to live in places like San Francisco where a 2 bedroom mobile home costs 400 grand."

And don't forget, there's a lovely 300 square foot houseboat in a leased slip in Tiburon for $750,000. Paying for the view, basically. Which, I'll admit, is fantastic. But, what is the asset that any mortgage would be secured with? The houseboat can't be worth more than $50K. The value has to be in the lease for the boat slip. Which, unless it's something like a 99 year lease, really has no "value" as an asset. Certainly not $700K.

[gridlock]

The problem is that so many people run the cards right back up.

Yep. And now it's your house on the line.

Back when I was a kid (...about a zillion years ago. I had a dinosaur instead of a dog...) parents used to teach their kids about financial responsibility. First you take care of a place to live... Then food... Then savings... Then charity... A ways down the line comes a car... And waaaaaay down the line comes all that fun stuff. Doesn't anybody learn that lesson anymore?

[Mr. Jeeves]

Face it, nobody needs to buy a 4,000-square-foot house or live in a particular neighborhood. Don't change your mortgage to suit the home you want to buy; change the home to suit the type of mortgage you can afford.

Yeah, good luck selling that concept amid the stiff winds of home builder/morgtage company/Larry Kudlow propaganda. Once the wife gets a look at that 4,000-square-foot place and imagines it full of Thomasville furniture with the kids playing in the backyard, that no-interest loan is as good as signed. ;)

Dieters are often advised that they have to "redefine their relationship with food". I think Americans similarly need to "redefine their relationship with home ownership" - there are market conditions and personal circumstances under which it is just extraordinarily unwise. "The American Dream" and similar folk wisdom about home ownership derives from the Depression era, and was invented to fit a set of economic circumstances which just aren't applicable today. People are taking immense financial risks to do what they think is the safe thing - standing the concept of personal responsibility on its head.

[eggman]

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.

It depends on what area of the country and what you consider a "decent neighborhood". I could find quite a few houses for less than those amounts in small towns all over the country. But those small towns aren't going to have big money jobs that the big towns have. You can also find very affordable properties in good neighborhoods in many of the rust belt cities. Again, the good paying jobs there are harder to find than the good houses.

I just started the process of relocating to the New York City area. To find a comparable house to what I currently have will cost me at least twice what my current house is worth on the market (under $225,000 for a 3/2 in a good semi-rural suburban neighborhood). As they say: location, location, location.

[gridlock]

("Violence never settles anything." Genghis Khan, 1162-1227)

I keep telling you! It's pronounced "Jen-Jis", with a "J". Stop pronouncing it with a hard "G" or I kill you!

Aaaaarrrrgh!!!

[RockinRight]

It's a trade off. Obviously, not running your cards up to $30,000 is the best thing to do. But-if it has already happened you have a decision.

You owe $108,000 on your house. You have $32,000 in credit cards, at an average interest rate of 14.5% with monthly minimum payments of $800. Your house appraises for $157,000. You could refinance, take cash and pay them off, but for simplicity let's say they have the option to do an equity loan-second mortgage. The equity loan is 15 years at 7.4%. Your payment is $295 a month. You increase your cash flow by $500. And your annual interest is lower. Technically, if you kept paying the credit cards at $800 you'd pay them off faster than 15 years-BUT-that doesn't account for additional fees, increasing rates, and the fact that most people who only pay the minimum do so because they just don't have enough money to pay more. Which means that as their balances decrease the payments go down which takes their payoff time way out to more than 40 years in many cases. For the person struggling, the $500 extra cash flow is beneficial. Doing this is better than the alternatives in many cases. Yes, it's now the house on the line, but for many people the monthly savings outweighs the risk.

But-since you've used your equity, you can't do it again when your cards are run back up in two years. The lesson? STOP USING THE CREDIT CARDS SO DAMN MUCH!!!!

[RockinRight]

But will you make twice as much in NYC???

Akron, OH has good real estate prices. Not the highest paying jobs around but I've found that often you can live better here than some other places because the increased salary of a NYC or LA doesn't outweigh the increased living expenses, especially real estate.

[gridlock]

The problem with the NYC area is that local governments are piling on the property taxes even faster than the values are going up. After shelling out $850,000 for a split level ranch on Long Island, you don't have a lot of money left over to pay that $2000-a-month property tax bill. If the bottom does drop out of the market, and property values return to a rational level, a lot of these houses will have property tax bills that are greater than the mortgage payment. 'Cause you just know that the tax bill is not going to go down, no matter what.

[conservative cat]

I don't understand why people use their credit cards so much. I have had one credit card since my early 20's (when I learned the credit card lesson!) and I only took that out when I was laid-off for the second time in a year (and it's since been paid off and cancelled.) I have a home loan and a car loan (unfortunately a must do since I have a commute to work.) I hate credit cards.

[gridlock]

You increase your cash flow by $500.

No, you decrease you cash outflow by $500. But unless you are in a happy place, that probably isn't enough to cover the amount of new debt you're piling on each month, anyway.

Somebody with $32,000 in credit card debt got that way one pair of shoes at a time. Unless they change their lifestyle, they're just putting off the crash, but the crash will be harder.

[eggman]

The area has still not recovered from the recession and I don't see anything changing. The Akron/Cleveland area is still losing jobs as fast as (or faster) than new jobs are coming in. The job is NYC is a much better opportunity to advance. It will be tough in the sort run but I'm looking at long term.

[RockinRight]

Of course. Changing your lifestyle is the key.

Many financial advisors say that doing this is fine IF and only if it accompanies a lifestyle change.

[eggman]

I've already seen the property tax situation. That is happening in more places than NYC. Naturally, the taxes will never go down even if the bottom drops out of the market.

I'll be renting in NY for a while before I am ready to sell my house, buy a new one, and move the wife.

[RockinRight]

I've seen situations where people have a $1200 mortgage payment (with tax and insurance escrow included) of which only $700 is principal and interest...and we're talking homes worth less than $250,000.

[eggman]

I used to think my property taxes were bad but what I'm looking at in NY makes mine seem like a pittance.

[RegulatorCountry]

"I used to think my property taxes were bad but what I'm looking at in NY makes mine seem like a pittance."

$2,000.00 a month would get you a very nice, newly constructed, three or four bedroom, three bath brick home with a three car garage, around 3,000 square feet and all the popular upgrades here. And on an acre lot. Including tax and insurance.

[shhrubbery!]

One significant driver I see for this type of lending is the fact that the decent house in the suburbs that cost $150,000 a couple of years ago is now selling for over $300,000.

Is it the cost of housing that is the "driver" for "this kind of lending" -- or the other way around?

IOW, isn't it the existence of interest-only mortgages, etc. that encourages the bidding-up of housing? The $60,000/year income family who previously thought they couldn't afford payments on that $300,000 house, now go ahead and buy it (since they "only" have to pay interest).

Another driver of housing cost inflation: The dual income family...

The authors of this book "point to the ferocious bidding war for housing and education that has quietly engulfed America's suburbs."

I.e., it is these two-income families, in their quest to live in suburbs with "good public schools," who have bid up the cost of housing so high.

Ironically, the phenomenon of working mothers has backfired. That second income, which was originally intended to help the family afford a nicer house in a nicer suburb with nicer schools, is now the driving force making that dream impossible (and driving many dual-income families into bankruptcy).

[RebelBanker]

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.

Let me know if you ever want a job in Maryland - we can always use lenders with that kind of attitude!