Over the past four months we have read dozens of articles, seen countless television news spots, and heard many radio talk show hosts try to fix blame for the current mess in the mortgage market on someone. Included in the finger pointing have been past Presidents, the current President, Congress, government institutions, Wall Street, builders, real estate agents, and mortgage brokers. All of these opinions are based in some form of truth, and the fact is there is enough blame to go around. No single entity needs to accept it all. The one place few pundits want to go is to place some of the blame on the individual borrower. Not surprising, being this is an election year.
The truth is, this was all predictable. In fact, I have been conducting free seminars for over 8 years to try to warn people about some of the very loans that are being blamed for our current situation. At my firm, we did not market these loans, and we lost countless potential clients for this reason. The loans I am talking about can be put into three categories.
The first category of loan that became the “flavor of the month” was the “Pay Option ARM”. These loans are instruments that allow the customer to make a decision every month. They can choose to pay the payment that would result in a 30 year amortization, the payment that would result in a 15 year amortization, the payment that would pay the interest due for that month, or a payment that would result in negative amortization (The amount paid does not even cover the interest due, so the loan amount goes up every month.). On a typical mortgage of $200,000.00, the payments would be as follows:
Any guess which payment was picked over 90% of the time? Of course it was the lowest. This loan program may be useful to high net worth investors that plan to keep a loan for a short time but they are almost NEVER appropriate for salaried wage earners. Throw on top of all of this the fact that these were adjustable rate loans and you have a sure recipe for disaster.
Another loan program that was popular over the past 5 years was the “stated income” loan. With these loans a borrower simply tells the loan officer what they earn. Nobody verifies the information. After all, nobody would stretch the truth, would they? There were cases where people had no money in the bank but claimed their income was over $7,000 per month. Some of these people later admitted they earned about $2,000 less per month than they stated on their application. Because they had a good credit score, they were approved. Could they afford the loan? Time will tell, but in most cases, no.
One last loan, using the best from all the rest, was the 80/20 stated income loan. In this case, the borrower received two loans, one for 80% of the purchase price and another for 20% of the purchase price. So, these people were buying a home with no money down, no money in the bank, and no verification of income. Great country, isn’t it?
Now, as long as property values were increasing and as long as these programs were available, everything was great for these folks. Their net worth was increasing, and their friends thought they were geniuses. Even investors got in the game. Money was cheap and readily available, and fortunes were being made overnight. But, as those of us who have been in the business for awhile know, what goes up must come down. As people continued to get in the game, supply got tighter and prices went up. At one point, the prices were so high that in Southern California only 19% of the residents qualified for a new loan even though 68% of them had homes with loans. Quickly, almost overnight it seemed, the prices went down. They continued to go down. No problem, the people with these exotic loans thought they would simply refinance into another ARM and keep the property.
Problem is, now that the supply of homes was high and the prices were down, sales slowed down and the banks and financial institutions that held the mortgages started to see more late payments. The lenders quit offering these loans. When homeowners’ loans adjusted, they were forced to attempt to refinance the conventional way. This meant they had to have enough income to qualify, and many of them simply did not earn enough to qualify. So, stuck in a loan where the payments may have increased by 80% and seeing that the property had declined 10-40%, the borrowers simply walked away. As more and more people walked away, the media wanted to place blame. The more stories that people read or heard, the more they believed they had been mislead, that they should not be held accountable for the loan. It has become a vicious cycle, where now, even the government feels compelled to step in.
Now, if current legislation prevails, those people that were conservative and qualified for their home and have made their payments on time will be responsible for those that did not. The government has decided that we need to offer assistance to those that made bad decisions but offers no help to those that made good decisions. Imagine if you raised your children that way.
It would be easy to blame the loans rather than the people that chose the loans. This is a mistake. Loans are tools, and people picked the tools they wanted to work with. To blame the loan program is to question the intellect of those people that chose them. Nobody blames the Escalade when someone that clearly can not afford it makes the purchase; instead they wonder why someone would live so far beyond their means. We must treat loans the same way.
If I sound like I am frustrated, it is because I am. Over the past 5 years, many people have been good stewards of their finances. In fact, only 6% of the mortgages are currently late. Most people resisted the temptation to purchase more home than they could afford. Many people have saved their money and are in a position to weather the storm. Some people, though, have not made good decisions. Some people have not saved their money. Some people purchased more home than they could afford in an attempt to both realize the American Dream of home ownership and to make a buck in the process. In other words, they speculated. They lost. Now, we as a society are telling them that they should not be held accountable for their losses. We are telling them that they did not have the right information to make an informed decision, and that they should receive government help. Where does personal accountability come in?
I am not discounting the pain that is being felt out there. I have talked to many people that are losing their homes. Many of them were turned down for a mortgage by my firm only to go down the street to get one of these exotic loans. When the trouble started, the person who advised them to get the loan is out of the business. The company they used is gone. The customer is alone. Nothing can be done. Many of these people have a monthly mortgage payment higher than their monthly take home pay. You can’t survive long that way.
So, I admit it, I’m old fashioned. I believe we are accountable for our actions. In reality, had the property values kept increasing, the people that obtained these loans would not have shared their winnings with the government. When we take out small business loans and our business subsequently fails, nobody wants to offer assistance. Part of the culture of the United States is based on our ability to “risk it all” and succeed, or to lose.
The good news is that there is still money available to purchase a home. The bad news is that the borrower must have a job. No more stated income loans, no more 100% loans. FHA loans have been the staple of my firm for 14 years, and now FHA loans are the new “flavor of the month”. If you have a job, and if your credit is half way decent, purchasing a home can be relatively painless. Oh, yeah, more good news. Now is a GREAT time to buy.