Deferred Payment Mortgages - Not As Bad As I Expected
(Note: As of the time I updated this, the website of the company was off-line. I do not know why and a casual perusal of search engine results is uninformative)
If that title seems to be damning with faint praise, it's accurate. I'm not going to issue any kind of blanket endorsement for them, but they aren't as bad as I feared when I first heard about them. They are definitely not something that will actually benefit most property owners, no matter how attractive the idea is.
Here's the press release: California Company Announces 'No Mortgage Payment for 12 Months'. Basically, they are promising a period of no payments that can be as little as three months or as long as 36.
So I called and checked them out. I can't find any evidence of the sort of attitude that are present in people who make a habit of selling negative amortization loans, and no evidence of legal shenanigans either (although I'd want to do more research before selling it myself, as I may do in March 2007 when they broaden the availability to brokers).
What appears to be going on is this: You refinance for an amount of money that covers not only what you need for pay off current bills, your current mortgage, put whatever cash in your pocket, etcetera, but also the prospective payments for however many months. The payments are based upon the increased amount, of course! Also, because it's for a larger amount, and hence, underwritten based upon a higher Loan to Value Ratio, as well as possibly Debt to Income Ratio (due to the higher principal amount), it might bump you down one or more categories in the quality of loan, and there will very probably be increased costs attributed to the increased loan amount, including addditional adjustment charges and the fact that these are always cash out refinances, might bump your costs half a point or possibly even more.
The excess goes into an escrow account, administered by a third party, where it earns interest while disbursing the monthly payments to the lender. The account has to be funded with enough to pay principal and interest for however many months you want to be free from payments, of course, and if you're expecting it to earn as much interest as it is costing you, well, I have a bridge in Brooklyn you might be interested in...
It appears that you can attach one of these to basically any loan from any lender. The only requirement is that the period of fixed payments has to be at least equal to the amount of time you want free from having to make payments. This is a very different thing from period of fixed interest rates, and the person I talked to on the phone offered me a negative amortization loan to go with it. I was quite proud of myself for being polite to him after that.
While I was on the phone, I did some price comparison between what's available to me and what they offered. I gave them a scenario of an 80% loan of $280,000 for a 720 credit score on a thirty year fixed rate loan. When I originally wrote this, I had 5.75 with one point total; they were talking about 5.875 with one and a quarter to one and a half points, although they were pretty slippery about being locked into any kind of actual quote. Considered in the context of the loan I was talking about, that's about an extra $1400 up front, not considering any possible junk fees, and approximately another $440 per year for what is otherwise the same loan. But even if they inflated that at signing by some reasonably standard amount, it's better than a lot of the other loans people are being sold right now.
Yes, it's higher than what I have available. Actually, I expected the difference to be higher. They are not selling great rates at a low cost with this program. What are they selling? Freedom from responsibility! Free Money (or so people think)! No mortgage payments for a year! Let the Good Times Roll!
I've kvetched enough about negam loans, and these really aren't any different in principle, but there is a large difference of degree. The underlying loans really are no different at the root from whatever type of loan you might care to name. At least if you make the underlying loan a good one, you're not being raked over the coals for 8% when you can have less than 6.
This program is, however, taking example of the fact that many people don't think of equity as "real money." But if you wanted to do one in conjunction with a purchase, you'd have to make a down payment at least to match the deferred payments. Is that money "real" enough for you? If you sold the property instead or refinanced for the cash out to make those payments, that money would be in your pocket instead. Is that "real" enough for you?
What does it cost? from their website
5. What is the cost for 12MoDef?
MPD, Inc. will submit a demand to Escrow for the 12MoDef service fee. The fee is $995 for 12 month deferral, $1495 for 24 month deferral or $1995 for 36 month deferral. This cost is typically paid by the borrower.
So in addition to all the regular costs for the loan, and of course, setting aside the equity to make the payments, and the increased interest costs down the line due to your loan amount increasing, this costs $1000 to $2000. I keep saying this, but I was expecting worse.
I am not enamored of some of the marketing tricks they are using to sell these, either. from their website
Miller notes that for clients close to retirement age, the freedom of 12MoDef, allows them to take advantage of "maxing out" their 401K contributions as well.
This must be some new definition of "advantage" with which I was previously unacquainted. Given their logic, this being for short term additional savings just prior to retirement, you're not adding that much, due to the short term nature of the issue in investment terms, you only have only a short period to compound, and in fact, the last time I checked, NASD rules specifically prohibited a licensed investment firm accepting your money in such circumstances. Not to mention it increases your future housing cash-flow requirements by more than the increase in your monthly income might reasonably be. After hauling out a spreadsheet, I couldn't find a reasonable scenario that worked, both in the sense of expected return and being sufficiently low risk to literally "bet the farm" on.
Delay is Denial digging you in deeper. If you can't afford the payments for the house you are living in, you probably need to do something else instead.
What uses do I see for this product? Primarily 1031 Exchanges, where someone may have restricted cash flow but does have a chunk of cash, and similar investment property situations. For investors and speculators, this would be a good way to stretch you leverage, albeit at a significantly increased risk, as should be plain to everyone reading this site by now. The current market is not really right for it, but being able to use equity in properties this way in rapidly appreciating markets might certainly be a way to make more money.
Perhaps there might be other times when it would make sense as well, but I can't think of another situation where it would be something I'd make a habit of considering. Of course, if someone asks me for it, once they're released to brokers, I'm more than libertarian enough to say, "Sign this saying that you acknowledge being told about these downsides and being advised to consult a financial advisor, and certainly I'll do it for you."
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