FanFred’s NEW PLAN Keeps Borrowers Underwater in Neg-Am’s & Teasers

Posted on November 11th, 2008 in Daily Mortgage/Housing News - The Real Story, Mr Mortgage's Personal Opinions/Research

The great new and improved big plan to save the housing sector involves giving 40-year terms, adding balances to the end of the loan and offering teaser rates.  IT WAS THESE EXACT PRACTICES THAT GOT US HERE IN THE FIRST PLACE! They were called ‘interest only’ and ‘Pay Option ARMs’.

This ‘new’ program is nothing new at all. It is simply an aggregation of a bunch of stuff brought forth previously that just makes everyone renters. The government’s new plan of reducing rates, extending terms and allowing negative amortization is being done primarily to keep borrowers from walking and renting by competing with rentals.

Why walk from your home when you can essentially rent your own home for the same? That is what the government is banking on. But in doing this the borrower stays underwater and highly leveraged. Its sad when it takes reducing rates to 1-2% to get the borrowers to be able to afford their mortgage. It highlights just how over-leveraged the housing system is.  If this new program is widely adopted and successful, it ensures lost future DECADES for housing.

This new plan certainly does not instill any confidence in new buyers because it makes everything much more opaque. It makes true valuations much more difficult to derive.

This plan does not solve the problem – that home owners are hopelessly underwater and over-leveraged to their home. They can’t sell or refi.  In turn, they are making a wise financial decision and walking away. Negative equity cuts across all loan types and borrower demographics.

Another main problem is that the borrowers have to produce income documentation. Remember, in the Alt-A universe 83% of all loans were limited documentation (stated income).  In the Subprime universe 55% were stated income and in the Prime world, some 35% were limited documentation.  How many that lied on their original loan application will be willing to give the real information now?

Additionally, by the time borrowers have missed so many payments they have been beat up by the lender for months. Many just give up and don’t care anymore. You would be surprised how hard it is to get borrowers to help themselves even with massive principal balance reductions, which are not being offered through the program to the best of my knowledge.

It is impossible to quantify, but I still maintain that programs that do not address the root problem will promote bad behavior by good borrowers looking to benefit. There are millions underwater in their property perfectly able to make their payments that may chose to default as a means to better their balance-sheet.

Today’s hype was just that…a non-starter ‘solution’ that ultimately turns home owners into leveraged renters because banks refuse to reduce the principal balance.  Until principal is waived for good, no solution will work.

I highly urge you to read the two posts below regarding the terrible solutions being brought forth by the government. – Best, Mr Mortgage

My advice to those responsible for the all the new loan mod chatter…

28 Responses to “FanFred’s NEW PLAN Keeps Borrowers Underwater in Neg-Am’s & Teasers”

  1. These actions will no doubt prolong the housing price correction, and will cost the country significant GDP in the long run. While I am sickened by the government intervention and bailouts, as a contrarian investor, I must say I am foaming at the mouth at what opportunities this will produce.

    On a different topic, why is this Tim Iacano joker still selling an investment newsletter? My god, he’s down 35% year to date!! That’s terrible, Tim, no offense. Perhaps you should stick to blogging and writing, because a professional trader you are not.

    Same goes for this Chuck Ponzi guy down in So Cal. He was posting all of his “trades” and investing acumen, until his luck ran out and the stock market tanked. Funny how all the amateurs (and many pros) become highly correlated at such times. Hey Chuck, where’s your track record now? As with Mr. Iacano, perhaps you should stick to blogging and writing.

    Sheeple who overleveraged themselves into housing problems, along with followers of the above two mentioned “trader” wannabes………deserve to get slaughtered. Right this way, people, this won’t hurt a bit…..

  2. Great stuff, Mr.M.,

    Any word on whether this changes loans to “recourse”? That would be a serious change to the terms and make any mortgage owner re-think their options. I can’t see how any reasonable individual wouldn’t look at this latest “plan” and simply conclude that it’s in their best interest to walk away.

  3. Looks like they are trying to save the banks and not the market or the consumer. Perhaps it is time for me to write a form letter for people to send in to the banks with their zero dollar checks!

    It is a consumer economy and thus the consumer rules! Another president informed us that it was our patriotic duty to spend. Government supports spending or so they say. Perhaps they need to be reminded that it is consumers who elect them! Government says they want low cost housing yet now they are being two faced by trying to prop housing values! If they support low cost housing then they should support lower mortgage balances. Easy to see who the bankers have in their pocket but that became quite apparent with Paulson now huh?

    If banks want to raise money then they should sell their capital stock in the Federal Reserve. It pays a guaranteed 6% tax free. This can be sold to the public and gain a higher dollar value than is currently kept on the books. The banks can exchange the cash received from the sale of the Federal Reserve stock and exchange it for safe US treasuries. I bet we could list it on the pinks in a week and have FINRA rush order a 15-2-11c form and move it up to the OTC shortly. This would lower the taxpayer funds required to bail your sorry asses out. While you are at it, perhaps you could have congress revalue gold from $42.22 per ounce and revalue it to say 20% below current market??? We only have 8500 tons sitting there, why do we keep it undervalued and issue treasuries at interest????

    Your lucky I am not the President because I would hire Sheriff Joe Arpaio, build a tent city in Arizona and stick all the bankers in pink underwear and give them the weather channel just to show them how hot it is going to be today while they are breaking rocks. To join them I would stick all the people who fibbed on their liar loans in yellow undies with flowers on them just so we could keep them from mingling with the predatory bankers….. Pink undies on the left side of the road, yellow flowered ones on the right. Politicians would have space reserved in the middle of the road, dodging the occasional truck that comes passing through.

    Rant for the day.

  4. Yes, great stuff. Your site is an invaluable source of truth.

  5. You know what? I don’t want banks to “reduce the principal balance”. Because it won’t reduce everyone’s balance. It will only reduce the balance of people who bought more than they should have. Someone who got a fixed rate mortgage, has an emergency fund, and generally did the right things will continue to pay for his $500K balance, while his neighbor will get a chunk of his $500K debt forgiven. When they both sell in 5 years, the neighbor will walk away with extra profit as a reward for making the wrong decisions.

    I LIKE the idea of banks lowering the interest rates but not the outstanding debt. It will keep people in their homes if they want to stay, and it won’t be such a outright cash reward for irresponsible idiots. Prices will stabilize if fewer homes are on the market, so that will benefit EVERYONE who owns. Sure, the irresponsible neighbor will be paying a lower interest rate for a while, but when they both sell in 5 years, the responsible guy will have a lot more equity in his home and will still come out ahead.

    (For the record, I’m a renter looking to buy, so I’m extra bitter that my tax money will be going to keep people who already have homes afloat, which will keep prices artificially high and make it even harder for me to find something affordable.)

  6. […] from keep borrowers from walking and renting by competing with rentals,” he said in comments posted on his blog. “It does not solve the problem that home owners are hopelessly underwater and over-leveraged […]

  7. Karen

    Do all the people who lied on their liar loans get off scott free or do they do time? If we put those people in jail, they would be removed from the workforce which would lower the unemployment rate since they are no longer available in the workforce. This would save jobs for those that were honest. Sheriff Joe has meals down to 20 cents a day and tents are cheap.

    As a renter are you not steamed that home owners are given a tax break on interest?? This is nothing more than a bank stimulus package subsidised by those that rent. This is grossly unfair and needs to be stricken from the books. The bankers free ride on the backs of Americans has gone on long enough!!

    Lucky I am not the president because rule of law would return to the land… We would have those pink and yellow undies on 24 hour web cam reality TV.

    2nd rant of the day.

  8. FHFA Modification Program Details

    Q: Who is eligible?

    A: The highest risk borrower, who has missed three payments or more, owns and occupies the property as a primary residence, and has not filed bankruptcy. The loan is a Freddie Mac, Fannie Mae or portfolio loan with participating investors. To qualify for the streamlined modification, the borrower must certify that he or she experienced a hardship or change in financial circumstances, and did not purposely default to obtain a modification.

  9. All this messin with the market is gonna get ugly. Modifications that just stall the inevitable coupled with anger from the responsible buyers, will probably cause the “walk away” syndrome to escalate. Now that a huge percentage of owners are underwater on their loan, how long will it be before the din of the jingle mail is deafening?
    Actually, jingle mail at Christmas time kinda has a ring to it……

  10. “In turn, they are making a wise financial decision and waling away.”

    Hey Mr. M, I don’t quite understand this sentence… can you clarify a bit?

    Thanks!

  11. BertDilbert –

    I figure on the liar loans there’s equal culpability. Some people did lie, others had their loan papers changed by dishonest brokers, and the banks let a lot of bad loans sail through. They’re all paying for it now, so I guess it’s a wash.

    No, I don’t care about the mortgage interest deduction. Not sure why you think I would. It’s in the country’s best interest for people to become home-owners, so it makes sense to give them incentives. The difference is that this incentive, unlike selective restructuring, goes to *everyone* who gets a mortgage. Anyway, as a renter I get this pretty nice general tax deduction. I don’t even have to itemize.

    I am aware that nothing will ever be perfectly fair or reasonable. I don’t want to lock up non-virtuous people like some idiot neo-con. But negligent buyers and lenders built up a bubble that has burst and is now taking down the friggin economy with it. We’re all going to pay the price, no matter what, but I don’t think it’s wrong to want the people who *actually caused this problem* to pay more than the rest of us.

  12. So this deal in essence just created to 40/1 option arm. Nice (note sarcasm).

    Objectively looking at this proposal, this should help the housing markets in the short term because this proposal will reduce the impact of foreclosures on banks.

    The bad news is that this bill probably destroys any hope that real estate could make a come back in the next 10 years. The reason is because this proposal spreads the pain out for many years. Who knows how long banks will have to write down their bad mortgages since the pain is being spread out.

    In addition, the issue of unemployment as a cause of foreclosure is taking hold of this credit crisis. As Mr. Mortgage has said in the past, subprime issues are becoming secondary to what is quickly growing as the primary issue in that people are walking away from their homes because they lost their jobs. Since proof of income is required, these people are going to be hard pressed to come up with proof and money to pay for their rent/mortgage.

  13. I live in Australia and have been watching events in the USA closely to gain perspective of what may happen here. I’m so sorry to see the mess unfolding. The $700 Billion bail-out CEO packages being handed out etc. Question. Over here, most people move home on average every five years or so…employment, upgrades etc. What happens there if they need/want to sell up and move on after taking up the assistance package?

  14. Good question Brent – I would assume that given the amount of negative equity is so high and these type of loan mods do not fix anything, the length of time people stay in home will increase significantly. If they need to sell they walk away then. Remember, these programs just make long term renters out of home owners.

  15. This clearly will not work for several reasons. How did the hope for homeowners bail out bill work? How did each and every hair brain scheme before it work? To Mr. M.’s point… Nothing short of principle cuts will rectify the situation, the reason is really quite simple. Homes are no longer worth what they used to be and therefore changing the interest rates or changing the length of the terms does nothing to reduce the all important principle. This is why it is always better to pay less at a higher interest rate than the other way around.

    This attempt will fall flat on its face as expected here because people have gotten wiser and things have only gotten worse. Distrust and challenges face each and every attempt at a work out. Can you actually blame these people? Until those responsible get rightfully frog marched and in addition transparency is the montra moving forward nothing changes… NOTHING!!!

    Who would buy a house today that doesn’t have to? Who would buy a new vehicle today if they didn’t have to? Frugality has now set in and the smart are saving their cash now. People do not want more loans and they want even less longer terms (40 years… c’mon). The chance for all of this nonsense was 1 year ago or more in Subprime. They (the powers to be) knew this new wave was coming and had no desire to help subprime in my opinion and let them go (Mr. P. did the same with Leaman). They want to now help PRIME and much of the ALT-A folks. Heck in reality it appears that they also want to perserve unions as well. Another problem all together. Ask Germany how that is working out for them (many others too in Europe). Unions have, and will continue to force jobs overseas in our country. Under worked and over paid in many cases they fail miserably when stacked up against foreign workers and especially the pay scales that they perform at. We are now in a global economy and their is no place for unions at this point. The world is under a microscope and to pay for futher assurances is… well ask AIG, MBIA and Ambec how that’s working out for them.

    We must allow properties to come down in value on their own or to force the issue we can write them down ahead of time. It is not like it’s not going to happen after all. I mean pay now or pay later. Off course paying later gets these guys that many more bloated salaries and bonuses at the tax payer expense. Seems kind of worth it when you really think about it… I am very serious when I say that. How many more years at continued bail outs can they count on? quarterly bonuses add up in a hurry if your talking four years or so. So do continued high salaries while the company bleeds green. Again at tax payer expense after all…

    We need to stop now and stand back and take a nice long deep breath and let things shake out a bit in my opinion. Backruptcy can be a good thing and doesn’t mean you falter if your business model deserves to stick around. Restructures happen all of the time and when they don’t it probably made more sense to allow them to fail in the first place. We just continue to throw money at things like we seem to do with other troubles like education (how is that working out?) for example. How about the airlines and autos over the years? What a complet surprise that the moral hazard put into place back then has allowed these same institutions to line up yet again for another bail out. Well off course they did and so would you if that was the rules that were set. We need to make damn clear that the rules are changing and they have done nothing of the sort.

    Change… yeah right! Show me change Obama and I will follow you with the utmost respect and full stewardship!!! Your time has now come and I truly hope you make the very best of it, for all of our sakes…

  16. It is the banks responsibility to verify everything on the mortgage application. You verify income with the IRS, you verify they are working with the employer, you hire private investigators if required…

    We are talking about loans worth millions a piece in value to a bank, and they just give them out without looking past a FICO number? The bank sold the mortgages, so they had no incentive to even make the effort to verify.

    I have to wonder if these mortgages modifications are going to start being forced upon people, and the option of default is removed entirely. Its only a few more steps to make all existing mortgages recourse and then automatically deduct your mortgage payment from your paycheck.

    Default and start rebuilding your financial situation while you still have that option.

  17. Mr. Mortgage,

    I found your site about a month ago , and it has been SO informative for me.

    My husband and I are currently grappling with the decision to default or not. We purchased our home in CA’s Central Valley area in the summer of 2007, after renting in the Bay Area. Since that time, the house has lost close to 50% of it’s value. My husband still works in the Bay Area ( about 75 miles away ), and his job has become more complex and time consuming. His current commute averages about 3 hours of drive time a day, in addition to what is now a 12 hour workday for him. As a result, we must move back closer to the Bay Area. We had no idea his job would change into what it has become, and now with today’s faltering economy and rising unemployment, there is no wiggle room/option to change jobs.

    We bought when we did because we mistakenly thought if we did not buy soon that we would be priced out of the market (shows what we knew)after years of watching prices rise steeply…a fear-based decision that has proven disastrous for us and so many others.

    We do have a conventional A paper, 30-year fixed rate loan at a 6% rate, which I know is good. But, we are now trapped, because we cannot sell and renting out the home is a joke, as there are already soo many other homes in our area that are turning into rentals, and that is not good for any neighborhood. Also the rental money we could get from it would hardly cover half of the monthly mortgage expenses, and we would still need to obtain a rental for ourselves ( pricey in the Bay Area ), as well other expenses and liabilities associated with renting out a property.

    We feel guilty and shameful about considering defaulting on our mortgage, but we have come to the point where we have no other option. We’ve never defaulted on any other obligation, and besides some credit card debt, have excellent credit histories. If our values had held steady or were even somewhat close to what they were, we would simply sell our home and take a minor loss. But, now we are currently underwater by close to $150,000.

    All these people who are angry about people like us, who are considering walking away, seem to be unable to put themselves in a position like ours, where your home loses half it’s value in a year and is still headed down even further through NO fault of your own.

    My question to you, Mr. Mortgage, is should we walk away or should we reconsider renting the property, if we were able to somehow get a loan mod? We currently have one purchase money ( no seconds or helocs ), non recourse loan, and I am INCREDIBLY concerned about these loan mod offers that seem to be nothing more than scams to hold off the inevitable housing market price correction that this country needs. It almost seems like defaulting will be better for the economy in the long term, as far as bringing things back to reality in the housing market. Btw, Citimortgage is my loan servicer and Fannie Mae is my loan investor.

    What should we do? We never dreamed we could be so utterly torn about any decision, but here we are. I guess we know what we need to do, it’s just so gut-wrenching. For all those who think people like us take this decision oh so lightly, think again.

    Thanks Mr. Mortgage.

    Sarah

  18. Backlash on this will be incredible. Rewards those who shouldn’t have bought in the first place but decided to stretch the truth and get a crazy loan. Banks fault too, but someone needs to have personal responsibility.

    I don’t buy near the amount of “victimization” that the media points at banks for foisting these loans upon innocent, hardworking homeowners. Folks, no one made you buy the house or sign the loan.

    I can tell my children that we could have had the new addition and game room if Daddy had just stretched more than he should have a few years back because he knew the government and Obama would help him get bailed out.

    This problem is so enormous that no amount of these programs is going to fix it and all of these 1-2% teasers and other mods are designed to defer the problem down the road for homeowners and banks alike.

    I disagree with your premise that principal reduction is the answer – maybe to keeping the debtor in the house but it does nothing to stabilize values but slows rate of decline (that is not stabilizing or leveling, just stretching out the time it takes to get the market clearing price).

    For example, let’s say I put 100k down on a 500k house and it is now worth 400k. My neighbor put 10k down on an option ARM and is struggling with the payment, but he can afford a payment at 350K. So the answer is to reduce his principal balance to 350k, thus “locking” my value in at somewhere near 350k. What this will do is take house prices from a market-based willing buyer/willing seller exchange to one where your neighbors’ collective affordability sets the price because they are already in the homes. In effect, this is a transfer of the equity of the owners who are still paying to the folks in over their head or walking away.

    Explain to me how I benefit from these programs as someone who still pays his mortgage?

    I’m going to call all of these programs the “Grinch Who Stole My Equity” plans

  19. Hey Mr. Mortgage,

    What does your crystal ball tell you about overpriced coastal real estate (1 – 1.5 million range)? I’m thinking the current crop of bailouts won’t offer much price support for this segment of the market. Conforming jumbos limits for San Diego county are dropping Jan. 1st to around 550K so that’s gotta put some downward pressure on prices, no? Maybe this is wishful thinking, but I’m really hoping that homes in this price range are in for a big down leg. They’re too expensive for Government largesse and too cheap to attract truly wealthy people with buckets of cash. What do you think? Do I have a chance of getting a deal on house in the next year or two? To date, price declines have been minimal and the only “deals” are foreclosures and short sales. But foreclosures in my ‘hood are few and far between. Short sales are more common but so far I’ve struck out on my two short sale purchase attempts after frickin’ months of waiting for an answer.

    Cool website, btw.

    Thanks!

  20. Sorry totally disagree with principle reductions. If banks/lenders were to do that the borrower would reap all the rewards of appreciation & most likely it would be tax free as the home is owner occ. Taxing the borrowing on a pricniple reduction doesn’t make sense either cause they could not afford the additional taxes if they couldn’t afford the home.

    What they are trying to do is keep these homes off the market, reduce the glut which is distressing prices (yeah, the solution is to reinflate), and recoup this money as best as they can.

    These people are renters regardless of the outcome. This solution I have to agree with as so far as I can see gives the lender the best chance at getting their money back in whole. (or at least the government which now guarantees these mtgs).

  21. SarahJ

    We are all between a rock and a hard place here. I know one thing and that is we need to get some money flowing in the economy and pronto. We are a consumer society which is 70% of our GDP.

    Between the ports of LA, Long Beach and Oakland, we shipped 4.5 million TEU of empty containers in 2007. That is over 17,000 miles, enough to stack empty containers end to end completely around the boarders and coastline of the 48 states and the entire coastline of Alaska. Now that is consumerism at its best!

    The economy of California heavily depends on trade and American consumerism. Trade, direct and indirect jobs is the number one employer in CA. If Americans don’t start spending, we are going to have significant slowdowns in the ports and become severely impacted in the state from trade related job losses. These job losses are of course going to result in more foreclosures reaching out far beyond the sub prime crisis.

    The Federal Government has shown no ability or interest in injecting money into the economy, just trying to keep the banks, AIG floating and now it seems the auto makers. In essence then, we cannot look to the Federal Government to bail CA and CA is already broke.

    That leaves the only ones left to fix the California problems is Californians themselves, or we are going to fall into the most serious depression.

    I don’t know where peoples house payments end up, perhaps that is shipped to some overseas investors. Chances are that the money is not coming back to circulate in the CA economy. The people of California as a state need to get the money flowing in state and stop sending it to a bank that sends it to god knows where.

    The sooner people stop making payments to the banks on underwater mortgages and start renting for less money and keeping the money local, the sooner we are going to be out of our mess. If the Federal Government feels fit to bail out the banks then so be it, let it be a Federal Problem.

    There is further good news. New restrictions on loan mods with foreclosures should allow you to live rent free and stack up some emergency cash cushion, perhaps up to a year. If the bank comes around to their senses in that time and makes an offer that is acceptable to you then take it. If not, then feel proud that you have taken the initiative in support of California.

    It should be apparent by now, that help is not going to come from the Federal government in any meaningful fashion, it is every man woman and child left to fend for themselves. As it is, it is going to take years for CA to come back on track and an oversupply of housing and tight lending standards should keep prices down for a long time to come.

    Crime is already up significantly in my area. Today we spent a significant amount of time putting up razor wire and other security measures at work, including a decision to get a guard dog for the yard. I already know what is coming and not waiting around to become a victim.

    Best of luck to you.

  22. First, Sheriff Joe Arpaio of Maricopa County, Arizona, which includes Phoenix, has the right idea. We in California pay $50,000.00 a year to house a prisoner. Sheriff Joe should be put incharge of the Federal Corrections mess and contract with states like California to fix their systems.

    Second, total mortgage debt cannot be serviced. The holders of these mortgages need to figure out how they can get the best return. Congress has passed a law that says “if you can no longer afford your mortgage, you can walk and we will not tax you for loan forgiveness.”

    What more do they need?

    After 5 or less years (with a lack of buyers, the foreclosure could be forgiven in as little as 3 years), they will be able to buy again when prices are much lower.

    The entire world faces the same problem: Too Much Debt. Debt default is the only solution that returns us to a stable state.

    What is being attempted now, creates a vast pool of unlendable money that will in the future (next 2 to 4 years) sow the seeds of hyperinflation.

    For the present we have deflation. We should not fear it. We should embrace it and fear Ben Bernake and King Henry Paulson.

  23. […] Mr. Mortgage:  The great new and improved big plan to save the housing sector involves giving 40-year terms, […]

  24. MR. Mortgage:

    From what you have seen/heard from the modifications are people not giving income info because they stated incorrect income on their original app? If they do give it and it is obvious that they lied have you heard of them going after the borrower for fraud?

    Balances need to be cut period. People cant move. At historical appreciation rates of 3% it will take 15 years or so to recoup a 50% decline in value. I say longer because of the oversupply and lack of wage growth. It leaves everybody stranded except for firsst time home buyers. The real estate/construction industry cannot survive on FTHBs alone.

  25. JJ,

    It wasn’t the borrowers who stretched the truth, only their housing ambitions. Loan officers, processors, and bank underwriters took in the borrowers info, realized it didn’t meet the front & back end debt ratios, and inflated accordingly. Borrowers were never very sophisticated and that’s glaringly evident by the mess we’re all in. (Nor were brokers, processors, and U/W’s – but they were given the rulebook to the ponzi scheme).

    Stu is 100% correct that bankruptcy procedures need to take place, and should be taking place in autos, airlines, banks, builders, individuals, etc. Maybe the Treasury and Fed knows the numbers would be too appalling for the American people to see. I don’t know.

    I do know that companies and people can emerge from bankruptcy with a clean slate, and hopefully an education on the mistakes made in the past, leading to a better, less leveraged route in the future.

  26. […] Mae and Freddie Mac and the big banks have instituted an aggressive new loan modification program, that has nothing to do with loan modifications. The […]

  27. I like the idea in the most part. Do whatever they can to “honor” the original teaser payment that was thrown as ignorant (or evil) buyers so that more can stay in their homes, thus reducing the crisis. Give them reverse mortgages, lower rates, whatever, but DON’T reward stupidity by lowering the principle! Restore order and confidence to the market and values may return within 5 years. If not, there will be a new market for “underwater” home trades. But again, the idea of rewarding stupidity (with taxpayer money) makes a (further) mockery of capitalism

  28. […] 17, 2009 at 10:48 am · Filed under Uncategorized Fannie Mae, Freddie Mac and the big banks have instituted an aggressive new loan modification progra… that has nothing to do with loan modifications. The new scam is designed to keep payments flowing […]

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