When a borrower has purchased too much house, fixing the rate won’t fix the problem because fixing the rate usually means a higher rate than currently being charged. When they have bought too much house, adding delinquent payments to the existing principal of the loan (capitalization of delinquent amounts), won’t fix the problem because this will increase a monthly payment already determined to be problematic. Perhaps if the payments were extended over a longer period there might be some help? Let’s look at this in more detail, to see:
[The following scenarios make the assumption that the loan is currently at a distress point and any increases in payments put it into the default zone.]
A 350,000 mortgage at 5% ARM on a 30 year mortgage will have a P & I payment of $1,878.88/month.
If the loan resets to 7% (assuming 2%/yr caps) the P & I jumps to $2328.56…..or $450/mo more.
Now, let’s take that new interest rate and engage in a loss mitigation strategy of lengthening the term and, hypothetically take that same loan taken out to 40 years would have a payment of $2,175.01. Which is still about $300.00 a month higher than it was with the teaser rate. So, if I’m already distressed, would I have more or less chance of defaulting on a house whose value is rapidly declining and whose payment just got increased by $300.00 a month and whose term is now 10 years longer putting the joyous payoff date 40 years away?
d). conversion of adjustable-rate mortgages into fixed-rate or fully indexed, fully amortizing adjustable-rate mortgages;
Now, let’s see….fully indexed implies it wasn’t previously, which implies teaser rates…..fully amortizing implies that it wasn’t previously which means we’re talking about either interest only or negative amortization situations….
So, our intrepid phone investigator discerns that the borrower of one of these products is either in distress or likely to be in default (else why engage in loss mitigation?)….now keep in mind this is without any amortization occurring yet….and the servicer’s options here are what, exactly? Anything they do will increase the payment that the borrower already cannot afford!
Let’s take that same $350,000 house. Let’s use the 5% rate as the current rate. At interest only, that would be $1,458.33/month.
Fully amortizing at 7% would be $2,328.56 or $900/mo. more than what they cannot now afford! And this is assuming they have been paying all of the interest each month rather than just some of it (negative amortization scenario).
So, let’s be generous and say we fix their rate at 6.5% for the life of the loan (30 years). The resultant P & I is $2,212.24 or $750/mo. more than they can afford currently.
Let’s go 40 years….P&I of $2,049.10…..$600.00/more.
Well, maybe we’re not being creative enough! Let’s arrange a principal forgiveness of sufficient amount to bring the payment down to that $1458.33/month so that we can meet our other mandate of having a fully performing mortgage situation for the life of the loan…..What would that look like?
Well….P&I of $1,458.33, term 40 years, interest rate 6.5%, FV =0, and the principal would have to be…..$249,092.67.
So….even if we fixed the rate at 6.5% and went all the way out to 40 years, we’d have to reduce the principal by $100,000. How does that compare to foreclosing now, getting the property sold now and have today’s dollars in hand? The answer seems obvious all lenders would choose the money today!
So…..the conclusion…..
For those who are servicing the loans of those who overbought, the loss mitigation strategies seem to be akin to sticking one’s finger in the dike….it may help you feel like you’re doing something, but I wouldn’t count on it as a strategy for staying dry.
There may be some folks that are helped by the kinder, friendlier loan servicing department. There may be servicing departments that go to extreme lengths in order not to write-off loans. But in a rapidly declining real estate market, with increasing rates and stagnant wages and an overextended and overbought pool of borrowers, it seems as though no matter how many fingers we have, the faults in the dike are too numerous and pressure behind it too great for any of us to stay dry. Get more information on ForeclosingNOW.com