Wachovia’s New Pay Option ARM Plan – ‘The Spend’

Posted on October 8th, 2008 in Daily Mortgage/Housing News - The Real Story, Mr Mortgage's Personal Opinions/Research

There is a new pilot program Wachovia recently put into place intended to rid themselves of that nasty $122 billion Pay Option ARM portfolio while keeping borrowers in their home. While this program definitely has its flaws because it does not come close to addressing the real problem (HOUSE PRICES ARE STILL SIGNIFICANTLY OVERVALUED) it is the closest I have seen yet.

Wachovia’s New Program – ‘The Spend’

First, Wachovia selected a certain number of Pay Option borrowers based upon internal modeling. Each borrower was assigned to a participating mortgage banker/broker and given what they call ‘The Spend’.  The Spend is how much money that will be used to modify and refinance the borrower into a new 30-year fixed loan, primarily FHA.

A portion of The Spend is used to buy down a 30-year fixed rate to a level at which the borrower can afford according to present day underwriting guidelines. A portion is also used to reduce the principal balance. From what I am hearing from early cases, the interest rate level on some first mortgages has been as low as 2%.  That’s pretty sad when it takes 2% to get borrowers to qualify for a fixed coming out of an Option ARM and just goes to show how leveraged up the borrowers still are. However, The Spend is not forgiveness of debt. It is put into the form of a silent second for a specified term and at an interest rate as low as zero that has to be repaid at some time in the future.

The benefits to Wachovia are obvious. They get rid of these toxic assets sitting on their balance sheet; they get rid of predatory lending liability through the refinance, as the borrower must sign away all rights to future claims; they outsource the loan origination staff expense to other firms; and they get to bring back a portion of the loan loss reserves set aside on each loan refinanced IF The Spend is less than the amount reserved.

If banks are going to start trying to get ahead of the game with proactive loan modifications/refinances, Pay Options are a great place to start. This is because they are truly toxic for the borrower and bank going forward.  Currently, Pay Option ARMs are being valued by the market as poorly as straight Subprime despite default rates being nowhere close…yet. This is because over time, most Pay Option borrowers will default due to the way the loan is structured and massive payment recast that occurs. Because Pay Option ARMs allow ultra-low teaser rates for up to 10-years at Wachovia , their Pay Option implosion could have been spread out over several years.  But, the market was smart with respect to this loan type realizing that despite the ‘high credit scores’ and ‘lower effective original loan to value ratios’ that they like to brag about, these are essentially all Subprime loans.

But unlike other program types awaiting implosion such as Jumbo Prime ARMs that are still rated and valued as ‘Prime’, Pay Options have been written down to some degree by banks already. This makes throwing money at them more palatable by the bank because if it cost less to make them ‘right’ than the value at which they are currently written down, it can lead to a write-up. Since Pay Option borrowers by and large are of decent quality and if they catch these before they go into default, refinancing them into a new fully documented loan should not be a problem. This may not be the case when dealing with Subprime borrowers, borrowers who are currently delinquent or low documentation borrowers.

There are significant problems with The Spend, however. Most obviously, they are artificially supporting house prices by giving borrowers extremely low interest rates such as a 2% 30-year fixed and a zero interest rate second. In addition, what if values are not at the bottom? The ‘negative equity effect’ is real and if values continue to tumble what’s to say that the borrower will not just walk at a later date. A good number of these may even turn into rentals because with a 2% fixed and zero% second, the property may cash flow.

The thought process is that if the borrower can afford their payments, especially on a 30-year fixed, it does not matter what the value of the home does – they will stay and make their payments. Well, this has obviously been proven wrong, as we are seeing Prime and Jumbo Prime default in greater numbers as values fall. On the other hand with house prices down so far in the areas in which this program is going into effect, there is a much better chance that this fundamental will play out going forward.

But then there is still the silent second hanging over their head and the fact that home owner is underwater by that large of an amount. This makes borrower repayment patterns totally unpredictable across all paper grades. This also makes typically life circumstances such as job loss or illness almost a guaranteed default.  If you have equity in your property, you have wiggle room.

One thing is for sure, The Spend is worlds better that the recent BofA/Countrywide settlement scam, in which the AG sold hundreds of thousands of borrowers down the river at a ridiculously low price. Remember gang, once you do something with respect to a mortgage modification or refinance, you lose your rights to come after the lender for predatory lending violations and forced rescission/modification.

The ‘relief’ the borrowers will get from BofA will be of the kind I mentioned in a recent post, ‘Countrywide/BofA – A Direct Threat to Borrowers’, where Countrywide gave a borrower a $900k five year 2% interest only loan on a $500k home essentially pushing the problem out five years and ensuring a foreclosure at that time.

That is why it is so important to do it right with permanent principal balance reductions if you are going to do it at all. I talk about this in my new video, ‘Mr Mortgage – Time To Get Your Bailout‘.

At my independent research firm, Field Check Group Real Estate & Finance, I can watch in real-time each and every loan default from all lenders so I will keep an eye out on how this program is working and how Wachovia’s portfolio is performing and periodically let you know.  If you get a call in the meantime by a Wachovia partner offering you something that is too good to be true, think very carefully because it just may be. -Best Mr Mortgage

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30 Responses to “Wachovia’s New Pay Option ARM Plan – ‘The Spend’”

  1. So the end result for the dummies that used an option ARM(and probably a 2nd) to buy a house that they couldn’t afford is that they will get the sweetest deal out there. That product was one of the largest contributors to the stupid appreciation in CA.

    The borrowers absolutely don’t deserve it but it is definitely in the banks best interest.

  2. Not so sweet a deal, except for the reduced rate. I read the plan for the ‘Spend’ and it is simply ‘debt for life, that you will never repay.’ If the folks aren’t that underwater, and are attached to their homes, and don’t mind paying what is equivalent to overpriced rent (since the principal payments will in the end be applied instead to the ‘silent second,’ and that must be eliminated in full before the homeowner can recoup anything from sale of the home later). But hey, more power to them.

    I agree that this is a decent plan, and has no real giveaway except for longterm teaser rate which means this asset (loan) has possibly negative yield for the bank, depending on their cost of money (this is where Fed loans via japan-like zero-interest rate policy, or ZIRP, comes in). By ‘decent’ I mean it doesn’t immediately involve a debt reduction for the homeowners, but gives them a way to carry the note for as long as they choose to, or else they can go the foreclosure route.

  3. Revision: Meant to say, ” By ‘decent,’ I mean it doesn’t hit up the taxpayers (via subsidies to banks or MBS holders, who take the hit when the debtor gets a writeoff, etc.), since it doesn’t immediately involve a debt reduction for the homeowners, but gives them a way to carry the note for as long as they choose to, or else they can go the foreclosure route. “

  4. Yeah, most of these loan mods are terrible for the consumers. We have a fight on one with a lender who did a mod who had the borrower sign her life away to litigate anything and even gave away her right to a jury trial. What did they do for her? They froze her 8.25% rate for a year for that!

    We got a hold of the file and found they gave her blank Notices of Right to Cancel (no dates when to cancel) and had additional charges on her HUD-1 outside of the tolerances for TILA which gave her the right to rescind the loan. Loan mod folks never gave her that option. Now we have a legal fight to overcome the settlement.

    Cannot stress enough… YOU CANNOT DO A LOAN MODIFICATION UNTIL YOU HAVE EXHAUSTED ALL OF THE OTHER CONSUMER REMEDIES THE CONSUMER MAY HAVE! Loan mod folks be warned, failing to explore and advise clients of those and other options can lead to your being brought into the legal battle.

  5. This is very interesting.
    The new behaviour arises I guess because the accountants permit a bank to convert a debt to a loan that is loss making for the bank (ie below cost interest rate on the total debt and where total debt way exceeds value of collateral) without any MBS mark to market type valuations on the balance sheet.

    I wonder if they include them honestly in their report to shareholders on lending margins?

    It has the advantage systemically of keeping the property from becoming a foreclosed sale on the market and hence forcing prices lower faster.

    It is as pointed out, it somewhat similar to a rental systemically and also from the mortgagees point of view, except that they get to make the decisions about the house.

    BIG QUESTION… comments owuld be appreciated.

    For mortgages where the bank still wants to go the foreclosure route (presumably still the vast majority), what is it that stops them from offering to mortgagees to write the slate clean and become a tenant at a market rent. I ask because the bank would be better off than forcing the sale through at depressed REO levels: ie the ultimate write off would be less.. Is there is something technical that stops bank doing this .

    Does it not make sense for the government to rent the foreclosed properties that they aquire rather than put them through the foreclosure process.

    The more such properties are rented by banks , the less will house prices fall. If all foreclosed properties were rented form now on, house prices might even start to rise in the most depressed areas.

  6. There is NO WAY the borrowers deserve to have principal washed away. There is nothing wrong with becoming a renter again.
    The banks don’t want to forgive the debt because then they would have realize the losses. By going the “silent 2nd” route, it allows them to push some losses down the road.

  7. The crazy thing about this industry is that they keep trying to peddle product anyway they can to keep the fees coming. Last week I got an “offer” from Chase about some refinancing options they thought would benefit me – I could go from my current 15-yr. 5.125% to a “lower payment” 30-year at 6.125% that would save me monthly cash (with calculations of my savings) or a “interest saver” 10-year loan at 6.00% that would save me total interest (showing me the total interest saved over 10 years).

    The “interest saver” was the one that got me the most – I could “save” interest by refinancing into a shorter term, higher rate loan when all I really needed to do was calculate the 10-year payment on my current 5.125% loan and pay the additional amount each month to “save” the interest without paying the refinancing fees.

    I almost wanted to call them up to ask them how stupid they think we are to refinance into a shorter-term, higher rate loan with fees – the presentation on the offer was real slick but a 15 second review would show anyone with a brain that it was a bad deal

  8. Sadly JJ , the brainy people are in a minority I suspect in the sense that it is easy for marketers to sell financial propositions to people who don’t easily relate to money matters. if if a minority of recipients of offers take up the offers, it is still worth them doing the exercise: a bit like spam mailing.

    The more complex a proposal, the easier is it to pull the wool over eyes and , if new (as these kind of offers are), the easier it is to be one step ahead of those who regulate financial product selling.

    (Mortgage Litigation Expert’ points make it worse.)

  9. This wont stop people from walking. It aint no great deal and capitulation is inthe air.

  10. peterb, I expect that out of this whole mess, one national casualty will be the general principle that mortgages are non-recourse. Once the walk-aways get to be a catastrophic problem, Congress and the states will jam down a recourse provision on new mortgages so that the government will bear less of the tab of financial firm failures due to mortgage problems in the future. By making them recourse, they shift the bailout burden to the individual homeowner vs. the government.

    Of course, anyone with a half a brain and significantly underwater now would stop payments now, save up, and wait the 12-16 months until eviction then move and rent somewhere else so no provision will help the government in this crisis (I’m sure there will be a story of a family who walks on its pay option ARM then comes back after the foreclosue auction and lives in the house as a rental for half the monthly cost).

    I’m in Texas and more specifically in the Houston area in a well-regarded, well-located, stable neighborhood with good schools so I feel reasonably comfortable that while we will take a hit, it will be manageable. But I feel for those in California and other places who continue to pay their mortgage while underwater in a declining economy. The total economic and social cost of this is going to be immense in some areas of the country.

  11. The big mystery is how the big boom/bust occurred in California/ Arizona / Nevada/ Florida, but the experience in the southern states in between, notably Texas, was completely different.

    Texas and California ‘s experience are like they are on different planets instead of the same country with the same currency. Other cross sectional comparisons are easy to make (eg what happened in the rust belt), but not the Texas/Californian one.

    How is it that there was so much irresponsibility in the first groups and the second group .

    I would really like to know. I am an economist and it bemuses me and it is not discussed in the normal forums. Is it something to do with different state laws; for example of the regulation of mortgage brokers? or something to do with the influence of oil.

  12. This is what Wachovia is calling Operation Green Earth, and I haven’t seen rates as low as you note, it wouldn’t surprise me…I’ve seen 3.5.%….Wachovia pays all fees associated with the deal…and for many, this does make sense.

    Still, what in the World (pun intended)was Ken Thompson thinking when he spearheaded the Golden West purchase…didn’t make sense then, makes less sense now.

  13. Graham Cox: there are a few factors I think why Texas will escape some (not all) of the housing damage:
    1) Cheaper land and generally cheaper housing stock but wages are more in line with national averages and so our median income to house price ratio is lower than CA.
    2) Economy has stayed strong and there has been generally net migratation to Texas from inside and outside the U.S.. Taxes (except property) are generally lower and the high property tax rates kind of cap the ability for values to rise as the burden gets pretty high pretty quick, unlike California with its general 1% tax rate.
    3) Home equity loans were not allowed under Texas law until maybe the late 1990’s (I forget the exact year) thus there is less of a culture of using your home as a piggy bank – it still happens but to less of a degree than the Northeast and California.

    It is a combination of factors and a little bit of luck as well. I know that certain areas like suburban Dallas took a pretty good hit in the .com meltdown because they had a lot of telecom companies in the area and values dropped.

    However, in 2006 & 2007, they did start giving loans out like crazy to anyone with a fake SSN and a pulse so we will get some hits but it is not generally $400,000 homes, more like the $150,000 range.

  14. First off I will preface this by saying that I ran my company for 7 years ( been in this business 13 years ) and had to close shop in June. Now I work for Countrywide. I have to say that this consistant bashing of Countrywide is not anywhere near true at my location and I imagine many others. There are bad and unethical people in most companies but bashing the whole company only hurts the ethical people. Maybe some people should start thinking about this before bashing Countrywide. You are hurting a lot of good people.
    Next onto this issue of housing and foreclosures. I am and will always be a hard core conservative but somewhere along the line people need to wake up and understand that saving people out of foreclosure has now become necessary because of the greed of Wall Street and the Government. Many of their policies have created this mess. Let’s also be clear that this mess doesn’t just include the foreclosures but the decreases in income due to job loss , company shut down , etc. When are some of you going to realize that many , many , MANY people bought houses well within their income and now job situations have totally changed affordability. In my situation I would love it if I could get a deal so I could get my payments down for 5 years like the deal that was mentioned as soooo bad. In addition to that I would need to get the equity in position so that I could refinance ( I.E.- equity pushdown ). All I want is a chance to get myself back on my feet and stabilize my situation so my two small children , my wife , and myself don’t lose a home that is probably the only one that my kids can remember. Where have I been irresponsible???? Was I being irresponsible or was I a victim of wall street and our government turning their backs and collecting the money? What would you do in my situation? There are a ton of people with the exact same problem and to paint this with a broad brush that they don’t deserve help for a problem in many cases was caused by Wall Street and the government in the first place is ridiculous. I can only hope that those of you with such a lack of compassion and ability to think broader are forgiven on down the line.

  15. I did not see any mention of how the liar loan crowd will qualify for a full doc FHA refi. Also, how do you buy a rate down to 2%??? Talk about off sheet pricing. Anyone see the SNL skit about the Sandlers and Golden West? The pre-edited version had the caption “people who should be shot” and it specifically said how they victimized Wach.

  16. […] Q1Stu on LIBOR Spike Not Only Hurts Suprime…Pay Options, Jumbo Prime, Alt-A TooJosh Dowlut on Wachovia’s New Pay Option ARM Plan – ‘The Spend’Thomas Dae on Wachovia’s New Pay Option ARM Plan – ‘The Spend’JJ on […]

  17. i am working on this project, we are learning how to work on this project with wachovia. I feel like they do not have a huge grasp on how this project works and there will be a huge learning curve

  18. I don’t get why everyone says that the Wachovia World Savings deal was a bad deal. They paid 25B for 122B in loans, with most of them paying around 6%. Not to mention all the property and deposits that World had which totaled another 3B. I don’t know about you, but if someone offered to give me a note at 6% for $122 and I would only have to pay $25 for it, I would take that deal anytime. There is only about 10% of those notes that are in default. That leaves 110B paying as agreed. If this is a bad deal, no wonder our economy is in such bad shape. What kind of profit would they be happy with?

  19. I would like to see how the accounting for this “new idea” would look. How is this different from what got these people into this mess in the first place?

    So…refi/restructure of old loan with 2% rate down to where the homeowner can make the monthly nut. A 0% silent second? Exactly where/how is this silent money coming from/accounted for that does not expect any return?

    If banks won’t lend to each other now b/c who knows what is on their books, How does creating a fresh batch of poo going to help?

  20. thats my bad excel’ing’. Positive numbers in relation to equity are bad, negative a good…well at least better than positive. Now, take those Level 2 assets and make them to where they should be marked and all hell breaks lose. For example, if those Wachovia Level 2 assets are their Pay Options, the true market value is about 50% shown there.

  21. Thomas Dae,

    You are absolutely correct about the broad Countrywide bashing along with the name calling that goes on here of people who did act responsibly, just had bad timing.

    The entire industry directly and indirectly played a part in this. Knowing, when I was originating loans, that these people would probably default in time, but just like you, they wanted to keep their home for their family, and would bite the bullet to do so. It left me with a real uneasy feeling to the homeowners and the bank, with my fiduciary responsibility as the broker.

    This can be a very painful time, but if we look back to the S&L fallout, we’ll see that people did pick themselves back up, prices returned to earth, people made better choices, and learned from the personal and societal errors of the times.

    Maybe there’s some silver lining for all of us displaced by the global de-leveraging? Maybe something more stimulating, rewarding, and challenging that offers a better way to keep your home?

  22. Bad Deal for the borrowers? I don’t think so.

    They are resrtucturing the debt -the debt they signed on for -into a FHA qualified repayment structure. Even if they are massively upside down, most people look at what it is costing them to live in (and pay off) their house. The total of debt obligation is coming in within FHA guidelines 38-54%. They could probably afford much less house (value, not loan amount) if they were to start over with a new property based on what they qualify for- so do they really care if they are upside down?

    Also, a lot (some) people have some pride and feel obligated to repay the debt they owe and are happy to see the amount owed remain the same when the payment becomes reasonable for them again.

    And sure, the biggest loser is Wachovia, but even they are coming out pretty well. Non performing assets are worth pennies on the balance sheet, so if they have to pay 20+ points to convert these toxic loans into FHA saleable portfolios (by buying the rate waaaay down), they are still coming out waaaay ahead (even after they pay me really really well to help them do this.)

    I am especially giddy because I feel like I am giving the borrower’s early Christmas, I am gettin PAID, and Wachovia is more than happy with the result (I guess to them that losing 9 Billion is alot better than losing your entire bank)

    Please share the error in my thought process if you can see it.

  23. Mr. Mortgage,

    Your blog posts inspire and educate me and I first wanted to thank you for that.

    However, I wanted to point out that not all loan modifications contain the provision that the borrower is relinquishing all their legal rights in the future. In fact every few that I have seen, since we deal with attorneys primarily, do not have this clause and I have seen hundreds. If the loan mod somes back with thsi provision, the borrower is instructed not to sign it and a new one drawn up.

    Keep up the great work and the good fight!


    Moe Bedard

  24. I got into one of these option arm loans four years ago, with the idea to leverage my house against the stock market. I maxed my loan out, took the cash, and put it into the market. It worked for awhile…took some gains…but have been sweating lately about what to do with an upside down loan, with continuing negative am. I am ready to deal with wachovia on a “sweetheart deal”. I figured up to this point the gains have not been worth the hassle with the neg am. If I can get into a fixed at a low rate…I will be able to stay put.

    Do I deserve the deal….well my point of view is that the banks were stupid with all the easy money they were handing out. The government was stupid to let them do it. Greenspan was stupid to let it go on. I am a businessman. As a homeowner we are all businesspeople. If you can get a better deal than what you have in place…wouldn’t you do it? Are you going to say that I am not going to do the best I can for myself, because it is going to cost the bank money, the government money, the taxpayers money? I hope to get the deal, and to hold them over the fire to reduce principal too. To me its the price they pay for their stupidity.

  25. […] in Default/ForeclosureBertDilbert on JPM Chase – Major Mortgage Loan Default SpikeWow in Ca on Wachovia’s New Pay Option ARM Plan – ‘The Spend’Art Vandeley on TARP – ‘Troubled ASSET RELIEF Program’? Are Banks the ‘Troubled […]

  26. We are seriously upside down in a Wachovia Option Arm.
    We’re working with Project Green Earth. My question, to all of you experts, is this:

    If we have a first for say $275,000 @ 2-3.5%, with the remainder of (approx.) $200,000 on the silent second at 0%, what would we end up paying over 30 years?

    What would a 30 year fixed loan for $275,000 at market rate be end up costing over 30 years?

    Also, what is the current “hit” to the borrowers credit after foreclosure? Our credit scores are currently 750+.

    Our community is one of the worst hit in CA. We were one of the fastest growing communities in the nation, and an overflow of the ($$$) San Francisco Bay Area. Our home prices doubled at the top, and have now fallen like a rock.

    We have owned homes for 20 years, and will be starting over at 48 & 49.
    What would you do in our situation?

    We appreciate your advice. Thank you in advance.

  27. I believe you are talking about Wachovia’s project green earth? What a gaff, I called them in September and they told me exactly what you stated, 30 year fixed at 2% I was approved in November and title was ordered, I received a gift from them from UPS on 12/24, yes christmas eve to tell me the loan is now denied…they strung me on for 3 months hopiig we could get this done…NADA

  28. I got caught up in the Wachovia “Big Spend” that MM wrote about in October. Went thru the Green Earth(what a name) department. Put me on hold for three months waiting to see if they could “transfer” my loan to FHA. I am upside down in an Option Arm. I was told that Wachovia was anxious to get these loans off their balance sheet. I had hoped for a favorable outcome.

    Originally I didn’t get into this loan with the idea that I would refi after a few years. I have a great job(10+ years), make 6 figure salary, thought that it would work for the time I would be in the house.(Until kids were gone, and we downsized). But with recent developments, the down housing and stock market, my income(made up of salary and investments) can’t maintain this type of loan.

    Due to the inflated SoCal housing market, I find that selling is not an option either. So I am stuck with this rapidly deteriorating mortgage, that I can’t support or get rid of. I am current and have made all my payments on time. With the recent appraisal(November), I am about $100,000 underwater, paying the minimum Pick a Pay, thus adding neg am every month.

    I got the word last week that Wachovia could not get it approved, because of Debt/Income ratio. They said that everything else about me was excellent, but FHA has strict d/i quidelines, obviously designed for 80% of the country, without regards to the high priced SoCal market.

    They suggested I contact two other departments at Wachovia, they thought could help my situation. I spoke to the direct lending department first. I guess they are the normal refi department at Wachovia, where they are using all of their money and none from the gov. They said that I am underwater and that no chance in hell they would refi.

    I then contacted the loan mod dept. They said that they were offering nothing for anyone now until Wells Fargo takes over. They did say I could skip three payments if I answered a few questions, but that they only offer one mod a year and this wouldn’t really do anything for my “long term” situation anyway, so I declined that offer.

    So here are my final thoughts about my outcome with Wachovia, and it may apply to all lenders. They aren’t ready to do anything until Obama takes over. They don’t want to use any of their money(principal reductions). That SoCal(and several other areas FL, Nev,etc) are so much in trouble, that nothing presently will help the people in those areas.

    Until the government designs a program that will work for these areas, or the banks are forced to come up with something… there will be several areas of the country that will become slums, filled with empty houses and transient squatters…or they will become Renter States with the lenders now becoming landlords.

    Or with these Option Arms, maybe the banks have been landlords all along?

    I just want to warn others who are trying to refi their loans in these areas. As far as my experience goes, nothing is going to happen with these present conditions. It was just a waste of time, that toyed with your emotions, and left you unsettled and deflated after the whole “run-around” experience.

    Good luck to the others out there that are trying to come up with their own solution to this mess. Don’t get your hopes up though, and expect a positive outcome. It seems, that pipedream is far far away.

  29. Hang in there it will get better

  30. I am in the same situation as “Wachovia Watcher”. I don’t know what to do… I just finish speaking with Wachovia and they informed me that they do not have any programs available until a couple of weeks when they merge with wells fargo this is when they will have new programs for us modify the loan? this most likely will turn into months!! I want advice, should I go through a loan modification company? Are these loan modification places really the only way that you can get a loan modification? Or are they only there to steal money from people. I inquired to a company called Christian Lawyers who said that they can get a loan modification, however they are costly and cannot guarantee anything but assure me that this is the only way that the banks are listening to people and actually making modifications. Is this true? I honestly do not know who to believe, I am not late on my payments but now I owe more than my house is worth.
    Any suggestions will be appreciated.

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