Why don’t all exotic loan borrowers refinance now?

[powayseller]

If everyone with a teaser intro rate, an I/O loan, ARM, would apply for a 30 year fixed rate loan, we would not see the massive foreclosures discussed here.

Why doesn’t everyone just refinance?

Well, I think the majority of borrowers have no idea how much their payments will go up, until they receive that new mortgage statement. When that new statement comes n the mail, they scramble and try to refinance.

Whether the borrower anticipates it or not, as Barry at The Big Picture writes, “The key determinant as to the impact on a region will be the percentage of people whose “mortgage exceeds the value of their homes, or whose debt payments exceeds 40 percent of incomes.” These people may be unable to refinance, and will be ripe for foreclosure.”

With home prices falling or previous HELOCs or refis, many cannot refinance because they lack equity. With today’s higher interest rates, many lack the income to qualify for a 30 year fixed.

So I don’t see that a massive education campgain to get all the exotic loan holders to refinance, can save the $2 trillion ARM resets scheduled in the next 18 months.

[Drew]

Aside from the folks that refuse to acknowledge that their ARMs will adjust to a higher rate and choose to keep their heads in the sand, don’t the vast majority of ARMs have a no-refi clause in their contracts that do not allow a refinance for X amount of time? The penalty for doing so will cause a significant penalty to be incurred?

I dont know this for a fact because I have only had fixed loans, but I thought I remember hearing friends and co-workers mention it.

[PD]

I previously had an ARM with a prepayment penalty (for 3 years) of about 5k. We sold our house before the three years were up but did not have to pay the penalty because it was not a refi.

[powayseller]

Usually you pay 6 months interest as penalty if you refinance or sell during the first 2 or 3 years. This penalty has persuaded some people that I know, not to refinance, and hope that rates will come down again.

If any loan officers are around, please jump in…

[no_such_reality]

They don’t refi because they can’t. Many of the exotics and i-onlys are already at or near 100% on loan to value. Other lenders look at the situation and see bad risk.

Keep in mind that in 2005, teaser ARMs and exotics accounted for 2/3rds of the new mortgages. Those people don’t have 15-20% equity and are severely exposed.

Contrast that with the national average of about 25% and you can see why the SoCal market is going to act differently than the national market on the downside, just like it did on the upside.

[anxvariety]

It’s not like these people have built any equity.. the whole reason they got into an ARM was to make the loan possible.. why would the loan companies now refinance them into a less profitable loan when it looks as though times are about to get rough/less collateral?

[sdappraiser]

All true. Many people are trying to refi, but they can’t with zero or negative equity.

“But my original loan officer PROMISED me I could refi in a year or two into a fixed loan”.

[Anonymous]

I have been a Real Estate Appraiser in Houston, TX for over 21 years. Due to the tremendous pressure from all sides I got out of the business 2 years ago.

There are many reasons why people don’t refinance but the primary reason is that can’t. It usually boils down to either there credit has slipped, the house is not worth what they paid for it or a combination of both. Due to creative financing, buyers were overly zealous on what they could truly afford. Fear and Greed fead the market as prices climed higher and higher.

Within the past year, there was an article in MSN Money about a young couple in CA purchasing their 1st home. It was approximately, +-50 year old home, contract price in the mid $500, however the monthly note was going to consume approximately 70% of their net income. “They wanted to buy before they were priced out of the market”. That is crazy, they were already priced out of that market.

Many buyers thought the housing market would continue to increase at previous years rates. Buyers bought homes they could not afford and many would not have been able to qualify for on a higher monthly payment of a fixed mortgage. However they could qualify with a lower payment ARM. Like most, they anticipated their incomes would increase, values would go up and they would refinance in a few years. However one thing you can always count on is life does not always turn out as planned.

[powayseller]

I see… they need at least 20% equity to get a 30 year fixed. You can’t get a piggyback 20% on a 30 year fixed? And with prices dropping, the equity is not there. With higher rates, they can’t qualify for the payment, since the mortgage they have is already at their maximum payment ability.

If we wanted to conduct a foreclosure prevention campaign, then it wouldn’t be to switch these people to a fixed rate mortgage.

How can we help these people? I had thought of sending flyers to all the people in the lower income areas of Poway, where most foreclosures are occuring, or going to the Poway city council and telling them of the rising foreclosures in Poway, and discussing solutions. But I was wrong to think these people could be taught to refinance to a fixed mortgage.

[burger007]

currently have an 5 year-ARM that has 3 years left, no prepayment penalty, capped out at 8.5%(1% max increase per year), rate is 4.65%. Not interest only deal, initally had that, and quickly refi’ed within 6 months, went throug a former “buddy”(he was a friend of friend, never again, we were not looking for exotic loan, he was just an idiot, and me an idiot for going through him) of mine and he screwed our paper work early on which caused us to get an interest only first, but then i rei’ed into a 5 year arm. I am aware of the payments when they do go up, not worried, could refi now , got a quote at 6.5% (no points) but will refi when my rate is higher than the 3o year fixed. Qualifying for a 30 year fixed is no problem.
I would like to hear if this is a good strategy or not, refi now or later(either way the payments would not be a burden on us. I just thought I would run with this since it is 2% lower than a 30 year rate now, and if by then rates keep increasing maybe my cap rate is higher then the 30 year fixed. If not then refi would be the case then. ANd the case of not being be able to refi b/c of lack of equity would not be an issue, I bought before the whole crazyiness began on the price run up(and i did not use a any equity to buy new cars like my crazy neighbors did).

[no_such_reality]

Sadly Powayseller, foreclosures is what the housing market needs to correct the price imbalance. It’ll tighten the credit situation and that really has been the driver on overinflated housing prices.

In the next few years, don’t be surprise if that $650,000 house you’re looking at is $450,000 and you can still barely afford it. If mortgage rates head back to 8% range, the payment will still be in the $3000/month range.

That’s a drastic scenario, a 30% drop and rising rates, but they’ll fuel each other. At the same time, if rates climb towards 8% and pricing doesn’t drop significantly, affordability, which is already extremely low, falls further and the volume dries up and you become trapped in your home.

It’s a double whammy, flat or falling prices breaks the incentive to buy and rising interest rates break affordability for those that are still willing to buy,

When the foreclosures start and the lending tightens up, how many people are going to be coming up with $120,000 down? or even $60,000, plus closing cost, points, etc. to be able to do a 80/10/10. Let alone swing the payments on the first and the second.

[powayseller]

My friend is a mortgage officer, so I can ask her, but I need more details, without invading your privacy. First, if home prices continue to go down 10% – 15% per year, would you have 80% equity in your home in 2 years? So if your home lost 30% of value today, would you still have 80% equity, meaning you have it at least half paid off at today’s value. Next, is your job stable and will your wages be enough to qualify for the higher payment that a 30 year fixed would be, assuming that fixed rates are at 7% in 2 years? If the rates are less, even better for you. Are you sure the rate caps at 8.5%, because that seems pretty good, almost too good to be true. I thought the rates can go up 7% max, but yours is going up 4% max?

I guess you have to decide also if you think rates will be higher or lower in 2 years than they are today. If I knew the answer about where rates are going, I’d be rich, so I have no suggestions on that.

I am definitely not qualified to give you any advice on this, but I will check with my friend.

[Anonymous]

You’re doing the wise thing to wait and enjoy your low rate over the next 3 years. I’m a mortgage broker and get asked this same questions every week. Unless you have some other reason to refi (need cash etc.) stay put with the lower rate. I tell people in your situation to perform watchful waiting. Keep an eye on the economy and interest rates looking for rate drops.

While most people in your situation worry that rates will continue to rise to their rate caps in the next few years, I highly doubt it. Rates are just as likely to flatten over the next 3 years and even drop again due to recession or global events.

[Anonymous]

Those that can have or will refi their loans. For the others the payment shock of a fully amortized payment or the inability to qualify for a loan with a higher payment keeps them in their current loans. I don’t think it’s just the exotic loans that is putting pressure on the real estate bubble. It’s the low and zero down deals that is the real achilles’ heel to this market. When the market corrects those with little or no equity will feel the pain first.

[powayseller]

Why is zero down worse than an adjusting mortgage? If the mortgage payment were to stay constant, then one wouldn’t feel the effects of having no equity.

If oil does go to $200/barrel, will Bernanke keep raising interest rates to slow inflation, or will he lower them, to avoid a big recession? How often in our country’s history have rates been below 5%, and how likely is it to go that low again? Isn’t the historic median at 7%, so wouldn’t that be figure to go by?

What advice do you have for people who are stuck in these loans? Just stay put until you are forced to deal with it?

It’s great to have a mortgage officer on this forum.

[Author]

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