Recently in X-Pert Information Category

Today's new consumer article is "Buy and Bail" or Buying One Home Before Foreclosure on Another, describing lender response to what has become a widespread phenomenon, as people think they are somehow saving themselves money try to defraud lenders in order to get another loan before their current home goes into default.

Today's new consumer article is The Return of Portfolio Lending, on the subject of what a portfolio loan is and the differences between portfolio and security based lending, and what the return of portfolio lending means, even to those who may not have a real estate loan.

I refinanced my house and an existing lien was not discovered.

Now the important question: Is it a valid lien, or has it really been paid, and just not released of record? If it has been paid, you don't owe money simply because the lien on your property was not properly removed. If you can prove it was paid off, either by yourself or a previous owner, you're out of the woods.

Since you are asking the question, however, I'm going to assume that it is a valid lien. Most are. You owe the money. It doesn't magically go away simply because the title company (or lawyer doing the title search) missed it.

Now, assuming you live in a title insurance state, it should make no difference to the state of your mortgage. You bought a lender's policy of title insurance as part of your transaction, and the title policy insures the lender from loss due to the extra lien.

You still owe the money, of course. Like any other bill, just because you neglected to pay it off or neglected to pay it on time does not mean you somehow don't owe the money. If it was in effect from before you bought the property, though, your owners policy of title insurance should kick in and pay it off. That's the way title insurance works - they tell you about known issues with your title, and then they insure (almost) everything else. They'll then go after the previous owner, of course. That's what subrogation is all about. They stepped in and paid to keep you from getting damaged, but they now assume the right to receive the money from the person who damaged you. If you live in an attorney title search state, my understanding is that you are going to have to sue the attorney involved, but suing attorneys is a tough proposition, and you can't recover the base lien, only increased damages resulting from that attorney's negligence. If the previous owner was really responsible for it, the title insurer is going to have to run them down and file a lawsuit, and quite often the previous owner has no assets that they can get at.

If the lien was your doing, as most are, you're going to have to start making an effort to pay that lien. How much of an effort depends upon whether you have a lender's policy of title insurance. If you do, it's really no huge deal, because the lender has access to the checkbook of a national megacorporation. If you don't, the lender can potentially force you to pay it in cash right now. They can also force you to refinance by calling your loan, or to take out a second mortgage to pay the lien off in many cases. It's possible they might just pay it and tack it on to your balance, usually boosting your payment in the process. Talk to a real estate lawyer in your state for details, but the lender is not generally going to leave an uncovered lien in place, when the pricing they gave you for that loan was predicated upon there not being such a lien. Since the lien predates their loan, it's almost certainly senior to it, by which I mean that if something happens and you have to sell the property to pay off the liens, it gets paid before your mortgage. The lender is not usually going to tolerate that.

Now suppose that you got a thirty year fixed rate loan at 5% back in 2003, and suppose rates have gone up to seven and a half percent by the time you rediscover the lien. The lender can do better with that money from your loan, and so they are going to want to seize upon any excuse to make you pay it off. This, all by itself, is a really good reason to be careful with your liens.

If you intentionally hid the lien, the lender may even sue for fraud in many jurisdictions. If you intentionally hid it, for instance, it's quite likely that your policy of title insurance won't cover you, and the lender is going to be very unhappy about that.

Most people, however, don't intentionally hide a lien, they just forgot it was there, and when the title search comes up empty any worries in the back of their mind went away. If they even think about it, they mentally write it off. "Oh, I must have forgotten that I paid it." You still owe the money, and now that it's discovered, you're going to have to start paying on it, but if they've got lender's title insurance the lender shouldn't freak.

Now, missing liens is actually fairly rare, but once title insurers miss them, they usually will not be caught on subsequent title searches, because the title company will use the previous title search as a starting point (around here, they actually call them "starters", but I don't know how widespread the practice is) for their new title search. Sometimes they do catch them, and ask the previous title company for an indemnity (which basically says that the previous title company is still liable for having missed it).

Caveat Emptor

Every once in a while, the subject of assumable loans comes up. An assumable loan is one where the owner of a property has the ability to pass the loan along with the property in a sale. In other words, if they sell a property with a $200,000 assumable loan on it, by assuming the loan, the buyer only has to come up with the difference between that $200,000 and the purchase price. The $200,000 loan is a constant of the situation.

About the only loan that generally has an assumption feature is the VA loan. There are other loans out there that are assumable, but it's a matter of company policy of the lender funding the loan.

Just because a loan is assumable does not mean that any person is acceptable to assume such a loan. The lender has the right to approve or disapprove a loan assumption. The way to bet is that any prospective borrower is going to have to qualify under loan guidelines at least as stringent as the original loan. Mind you, if the rate is higher than the current market, the lender is likely to be somewhat forgiving, but if the rate is lower than current market, the lender has an incentive not to approve the assumption. They may approve it anyway, if the rate still beats the active return on the secondary market. But given the latitude to make their own decision, it's not exactly amazing how often everyone will usually follow their economic best interest.

Even after an assumption gets approved, the original borrower is not off the hook. I don't think I've ever heard of an assumption where there was no recourse to the original borrower. The VA loan has full recourse to the original borrower (and their VA guarantee) for a minimum of two years. This means that those original borrowers aren't going to be able to get another VA loan for at least two years, or at least that they're limited by the amount of their overall VA limit tied up in the assumed loan.

Other than VA loans, loans where there is an assumable option are generally a little higher than the non-assumable competition in terms of the tradeoff between loan rate and costs. This is because assumability is a feature with value. They're giving you something that has value the competition does not - they want some value in return. It's generally not a huge difference, but in the absence of someone asking for an assumable loan, I generally presume lower rate/cost tradeoff is more important to my clients, and I can't remember the last time a wholesaler with assumable loans won that battle.

Now there is a concrete value to having an assumable loan. Particularly in markets like today in much of the country, they are one more way to get the property sold, and sold at a better price. After all, you have a feature that few other sellers have. The offer to allow someone to assume your loan can help certain kinds of buyers who may not be able to qualify otherwise, It's a narrow niche, but it does exist, and the ability to have any niche of potential buyers to yourself is valuable in a slow market. This doesn't say you can ask for way more than the property is worth, it says that you have a tool to lure certain types of buyer, and have a tool to move negotiations in the direction you'd like them to go once there is an offer.

Caveat Emptor

The answer is a modified no. The same answer applies to property that is only structurally damaged, but not condemned.

That condemnation is a matter of public record. I've seen any number of them while perusing title records. It shows up kind of prominently on the title commitment, which every regulated lender is going to require.

Now it is a rule of regulated lenders that they will only lend upon the state of the property right now. If a house is condemned, you can't sell it to anyone as a house. Furthermore, with a condemned house on the property, it really isn't vacant land, either. It's less valuable than bare land, as you have an expense that vacant land does not. You have to pay for demolishing the structure and hauling away the garbage.

In the case of structurally damaged but repairable property, regulated lenders won't deal with it as a house either, although some may deal with it as if it were vacant land, less the cost of demolition and haul away. It depends upon lender policy.

The only place to get loans upon structurally unsound or condemned property is a hard money lender. They don't have the Securities and Exchange Commission to answer to, and only much smaller responsibility to the Federal Reserve Board. Many of them are individuals holding the loans in their own name. They can do most anything they want. If one of them can be convinced that the property can be marketed for a given sum, they will typically loan based upon that sum. It's all a matter of what they want to do.

Hard money lenders will loan a maximum of only up to about seventy-five percent of whatever the marketable value of the property is, and the rates are unfriendly, to say the least. However, they can choose to lend where a regulated lender can not. They can be your only option other than no loan at all. Most brokers will have at least a couple hard money lenders available to them, but your average direct lender cannot. As a final note however, before doing business with a hard money lender, you want to think long and hard and consult some experts as to whether you should - whether it's a good idea or not.

Caveat Emptor

When and Why does a Mortgage Company Sell your Current Loan to another Mortgage Company?

Lenders sell their loans because the lender can make an immediate premium of anywhere from 2.5 percent to four percent by selling your loan to Wall Street. Yes, this is less than the six to eight percent per year interest that most primary homeowner loans get, let alone second loans, commercial loans, etcetera. Nonetheless, they can turn the money several times per year, earning far in excess of what they could earn from the interest on your loan itself, and that's why they do it.

Selling your loan doesn't just get them four percent once. It lets that lender turn around and do another loan and make more money without getting more money in deposits. Many lenders can turn the money three to six times per year, getting them a twelve to eighteen percent bonus in addition to anything they make those few months that they hold the loan.

Now there are several philosophies on when to sell the loan. The one that seems to have the most adherents currently is the pure packaging house philosophy, where they sell it off immediately upon closing, or within a few days. Given this, they can turn the money a dozen times per year if they work at it, selling the loan for a smaller premium, but getting twelve markups per year, amounting to somewhere between twenty-four and thirty percent on the money.

The second philosophy is one that is practiced by a smaller, but still significant number of lenders, who fall more into the traditional lender's model of doing things, and that is to wait until one payment has been received. Since this eliminates a noteworthy fraction of the fraud that's out there, they get a better markup for their loans. The downside is because they have to hold it an average of two months before the first payment is received, that means they can only turn the money six times per year at most, as opposed to the twelve for the previous model of lender. So they get six markups of three percent or so, maybe close to 20 percent over a year. To this, they add maybe three percent, to cover the interest they actually received from borrowers directly. Net: maybe 22 percent. Furthermore, this leaves them stuck with those loans where the first payment is late, because nobody wants to buy those. Better from their mortgage bond buyer's point of view, not so hot for their bottom line because there is a high percentage chance of those loans becoming what is known as "non-performing." In other words, default. The bond buyers got stuck with the results of default in the first scenario, which the lender views as a much better thing than dealing with it themselves. In other words, this scenario forces the lender to actually live with the results of their riskier underwriting scenarios. They actually can sell those loans, but anybody who's paying to assume that kind of risk is going to demand a commensurately lower price for it, which is reflected in a lower bottom line. So the lenders who hold a loan until after the first payment usually have tougher underwriting than those with pure packaging house mentality.

Finally, there are still a few lenders who wait until they have three payments, giving them the best prices of all when they sell. Unfortunately, it takes about four months for them to be able to do this, so they get four percent for the loan, but can only turn the money three times per year. This actually gives them a chance to fix bill paying problems that might have afflicted the second group, but on the other hand, more people have a late payment somewhere in the first three. Nobody wants to pay a good price for loans that are not current, and a little less if it has been delinquent but is no longer, as that's a flag for possible future problems. These lenders get maybe 12 percent per year in funding markup, plus four percent or so for interest actually received from borrowers, netting maybe sixteen to seventeen percent. Needless to say, this model has largely fallen out of favor by most lenders because it doesn't put as much money into the firm's bottom line, but they still get over twice what the lender who actually holds the loan makes per year.

Now this phenomenon has been part of what has driven rates down from their rates of years previous, as lenders face increased competition from other lenders who "want in" on that twenty-four to thirty percent per year from turning the loans, and are pressured to deliver lower rates by the fact that most of their money actually comes from selling the loan, as opposed to servicing loans they do make. Many lenders actually retain servicing rights when they sell the loan, as this gives them continuing income. Indeed, many people out there whose loans have been sold multiple times are blissfully unaware of the fact, as they are still sending the check to the original servicing company.

Another thing that this has driven is the increased use of pre-payment penalties, as the entities buying the loans, which are mostly large Wall Street entities, are very attracted by the consequences of buying loans with prepayment penalties, and thus, pay more for them. If you know that you're going to get that 7% for at least three years, or get a one time stroke of three percent if you don't, you are willing to pay more for those bonds than if the people involved could just hand you your money at any time. Many times the sub-prime market will offer the same people a better rate with a prepayment penalty than the A paper market will without a pre-payment penalty. It's all well and good to save half a percent on a half million dollar mortgage, which is $2500 per year, but if you don't last the three years you are out $15,000, twice the maximum you possibly could save! Pre-payment penalties are to make the aggregated mortgages more attractive to Wall Street.

Caveat Emptor

Having written several articles on Negative Amortization Loans, telling of the details of what is wrong with them, and even destroying the myth of Option ARM cash flow, I sometimes get asked if I would like to see them banned completely.

Well, given the pandemically misleading marketing that surrounds these loans, and pandemically poor disclosure requirements, I am tempted. It only takes one person losing their life savings and having their financial future ruined to make a very compelling story, and I've seen more than one and read about many more.

However, when you ask if they should be banned outright, I have to answer no.

Part of this is my libertarian sympathies. Adults should be allowed to make their own mistakes. But there are economic and a realpolitik reasons as well.

The fact of the matter that just because Negative Amortization loans are oversold under all of the friendly-sounding marketing names such as Option ARM, Pick a Pay, and even 1 Percent Loan (which they are not), does not mean that there is no one for whom they are appropriate or beneficial. People for whom these are appropriate do exist. Consider someone with crushing consumer debt, and no significant usable equity on a home they've owned for a while. They sell the home, they end up with nothing and still have the consumer debt. They can't refinance cash out. But if you put them into an Option ARM for a while, you remove from several hundred to over a thousand dollars per month from their cash flow requirements. In three years, they will pay off or pay down those consumer debts, and then you refinance to put them back on track, and the money that has accumulated means nothing compared to what they've paid off. It's a very narrow niche, but it does exist.

Consider also someone starting a business. Cash flow insolvency is what kills most start-up businesses. Until the customer base builds, they don't have enough money to pay the bills. Lower monthly cash flow requirements on their house can mean the difference between success and failure of their business, far outweighing the cost of the extra money in their balance that they accumulated. Furthermore, the fact is that when their cash flow gets tight, they're not making the mortgage payment anyway. They are likely to lose both business (through insolvency) and property (through foreclosure) if the business fails anyway, and the lowered cash flow requirements of the Negative Amortization loan may give the business more of a chance to succeed, and once it is profitable it will pay back the investment many times over.

There's still a need to really explain what's going on, and all of the drawbacks of the loan, but people in these two circumstances really do have a valid possibility of it being in their best interest. Banning negative amortization loans completely takes away that option, thereby hurting those people.

Furthermore, in realpolitik, it is unlikely that any attempt to ban them will be successful, or permanent if it is successful. Let us presume some public spirited official in Congress or at the Fed decides to make the attempt. What do the scumbags who make their living selling these loans do? They won't go back to selling real loans with real payments - if they could do that, they wouldn't be selling negative amortization loans. Negative amortization loans are a way to sell property without the apparent up front costs of a higher payment that always will be indicative of the housing market. Given a choice between giving up screwing people and fighting back, they are going to fight back. Lobbyists, PAC, and grassroots deception en masse, and probably astroturfing as well. If the average voter gets a pamphlet saying Congress or the Fed is trying to ban these loans that "are the only way middle class people can afford a home!", they are not going to do research in order to educate themselves about what is really going on. They are going to call their congress critter and voice the opinion the negative amortization industry gave them - and they're likely go so far as to go apply for one themselves, unless they already know what a bad deal that loan is. Chances of congress resisting: Basically nil. There is no organized group in opposition, no budget for groups that want to push a ban. Any ban would be politically dead on arrival.

There is an approach that will work, however: Disclosure requirements. If these people have to tell the prospective victims in easy to understand language and easy to read print about all of the problems they are letting themselves in for with these loans, very few people are going to sign on the dotted line. "Caution: If you accept this loan, the 1% is a nominal, or in name only, rate. You are really being charged a rate of X%, and this rate will vary every single month. If you make the minimum payment, your loan balance will increase by approximately $Y per month at current rates, or Z percent within five years. You will have to pay this money back in lump sum if you sell, or with higher payments at a later date. If you cannot afford full payments now, you will unlikely be able to afford them in the future after your balance has increased. There is a three year prepayment penalty on this loan, and if you sell the property or refinance within that time, you will pay a penalty of approximately $A in addition to whatever additional balance has accrued. It is currently under consideration that the mere fact that you have one of these loans will have significant derogatory effect upon your credit rating, even if you never make a late payment, due to financial difficulties encountered by borrowers with this kind of loans in the past." I could go on in bullet points for a couple of pages, but I trust you get my point. You have all of this in writing from the federal government, the least an intelligent adult is going to do is find out what's really going on here.

Furthermore, the only way disclosure requirements could be fought by the industry is behind closed doors. The only way it stays behind closed doors is if nobody raises a political stink, and it's easy to raise a political stink about stuff like this. Newspapers and television reporters and bloggers all converge on the issue, and the industry is left in the awkward position of crying because they have to tell the truth. That doesn't play well with the American public. The way this plays with the American public is the major reason for the successes of Porkbusters. Despite some very entrenched and very powerful enemies lining up against them, they've won on a couple of big issues because of the power of the idea that the American people have that the truth should be told. Take the tack that all you want is for the industry to tell the truth, and watch the political wind die out of their sails. David beats Goliath reliably in American politics when the issue is "Do I have to tell the truth?"

To summarize, it is tempting to try to ban negative amortization loans. But it is far better social and economic policy to go the disclosure route instead, and far more likely to be politically successful.

Caveat Emptor

Mortgage Accelerators, or Money Merge Accounts, have become the thing that everyone's pushing of late. I have gotten so much junk mail about this from more originators (who don't know who I am) and wholesalers (who should) in the last few days that I'm going to have another whole go at the entire concept. The claim most often advanced is "pay off your mortgage in a fraction of the time!" In fact, typical numbers say they're only going to do a fraction of the good done by biweekly payment programs, which effectively make one extra payment per year. Money merge accounts or Mortgage Accelerators (to use the term I originally learned years ago) have been pushed and over-promised so badly of late that I hope whoever manages to do an elementary search will be able to find a voice of sanity.

These wasteful loans that waste a homeowner's money are fast becoming the current market's negative amortization loan as far as marketing goes. These things are being pushed hard, consumers are being led to expect far greater results from them than they are likely to achieve, with the results being that those consumers who sign up for them are wasting their money. If they're not as bad as negative amortization loans, that's still damning with faint praise if ever there was such a thing. Not as bad as the loan that encouraged people to buy a more expensive property than they could afford, put them more deeply into debt with every passing month, ruined their credit ratings, and caused them to lose the property they over-extended to buy, as well as setting the United States as a whole up for the worst financial crisis we've experienced in the past eighty years. Well, it is kind of a high bar for lenders to get over, and they haven't done it here - but that's not due to concern for consumers.

What goes on with these accounts is complex, and they're not all identical. The basic idea is the same, however. You create a special account of some nature, where you deposit your entire paycheck in the mortgage account, where it lessens the amount of interest you pay on a day-to-day basis. Then you pay your other expenses of living out of the account, gradually increasing the amount back up until the next time you get paid. The idea is that by paying down the balance with your entire paycheck, less interest accumulates and people making the same regular payments will pay their balances down faster with the same balance.

Sounds like a cute idea, right? If it was free, they would be a pure gain for the consumer. Unfortunately, they're not free, and I've never yet seen one that wasn't more costly than it could possibly be worth.

Lenders like these things for a lot of reasons. Most obviously, they're getting pretty much all of a consumer's banking business. Checks come in, go out, clear or don't; all those lovely fees. In the vast majority of all cases, there's the initial cost and interest expense of an associated home equity line of credit. This also raises the bar to make it more difficult for a consumer to refinance away from their loan if someone offers them a better deal. Furthermore, there's usually an explicit charge of about $3500 to set the thing up. I'll show where this money would be better spent on a direct paydown of the mortgage.

Also, the people who sell these things have these beautifully intricate presentations. While people are watching the money whizzing about between one account and another, they're usually not considering whether those figures are reasonable, typical, or even anything like the numbers they personally experience.

Most importantly if consumers are shopping for a new loan, their attention is distracted from the most important part of shopping for a loan - getting the best possible tradeoff between rate and cost, focusing instead on this fascinatingly complex toy that doesn't make nearly the difference most of the people pushing it say it will. Taking the attention of consumers off the question of what rate they are getting, on what type of loan, at what cost, means that they don't have to compete nearly so hard to give you the most competitive rate-cost tradeoff. In plain English, their loans can charge a higher rate of interest. In fact, this difference will cost the typical borrower far more than they could ever hope to save via a money merge account. I'll go over that in this article, as well.

So, first off, let's consider what typical numbers are. Here in San Diego, the median property sale is $558,000. In order to qualify for the loan, consumers need a back end Debt to Income ratio of 45%. Front end will most typically be around 36%, with property tax, insurance, vehicle payments, credit cards, student loans etcetera. I'll be really nice and say 32% - chances are that if it's lower than that, the people would have bought a more expensive property. I'm going to assume 20% down payment or equity, which is, if anything, larger than typical. We'll postulate a rate of 6%, which is probably a hair higher than most folks with conforming loans have - and more favorable to the money merge account - and I'm going to put it all into one loan even though that's theoretically a jumbo loan amount, just to give the money merge/mortgage accelerator every possible benefit of the doubt. After all the smart thing to do is split the loan amount, which leaves roughly $30,000 out of this account in a higher interest rate loan, and so the scenario envisioned is more beneficial to the Money Merge than what happens in the real world.

This gives a loan of $446,400. At 6 percent, the payment would be $2676.40. Assuming 32% front end ratio, that's a gross monthly pay of $8365. I don't have withholding tables, so I'll use the actual tax rate for couples making slightly more than $100,000 per year with about $55,000 taxable, which is $7400, plus about $8700 in Social security taxes, plus state taxes which I will assume to be roughly $2000. This money gets withheld - it never comes to you in the form of a check. Since you don't get it, when your check goes into the money merge, it doesn't help you pay the interest. This leaves $81,900, or $6825 in take home pay. I'm not going to worry about other deductions like health care, or how your pay is structured, which further erode the benefit. I'm just going to assume it hits your account in full on the first day of the month, maximizing benefit, although I'm still going to assume all of the excess goes out every month. If nothing else, for investment accounts. It's pretty silly to have your money paying off a 6% tax deductible debt when you can have it earning about 10% elsewhere! But this isolates the benefit gained from the actual Money Merge, and separates it from any benefit derived from making extra payments, which is another way the people selling these play "hide the salami" with consumers, distracting them from what's really causing the benefit - the extra payment, which almost anyone can do, anytime they choose, for free. I'm even going to assume that you don't have an impound account, so the money you eventually spend for property taxes and homeowner's insurance goes to help the money merge as well.

So you get $6825, less the payment of $2676.40, leaves $4148.60. Over the course of the month, money goes out to pay for all of your expenses. They people who sell money merge accounts urge you to leave paying your monthly bills as late as possible to get the maximum benefit from these accounts, completely ignoring the costs of the occasional late payment this is going to cause, as well as detrimental effects upon your credit when it does happen. In fact, a certain amount of these bills are going to wrap into the next month, meaning that under the conditions we've agreed upon, you write that check to your investment account for this month and pay that bill out of your next month's pay if you're smart. Since you're going to write that particular check ASAP if you're smart, that's going to diminish the effects of the $4148.60. But I'm going to be nice and give you a $1000 "cushion" that you carry into the account from month to month (again, you won't do this if you're smart), while the $4148.60 is going to be paid out evenly over the course of the month, giving you a mean daily amount of $2074.30, plus $1000, or $3074.30 per month of temporary principal reduction. This reduces your interest paid by $10.37 that first month! I'm going to assume this is pure gain, every month, and that it continues to compound. If you do this every month for thirty years, you'll actually pay off that loan a grand total of three months early, and the last payment is reduced to a shade over $400! All of this hooting and hollering and shouting and frustration over three months of paying your mortgage off - in an absolutely optimized, perfectly favorable environment where the Money Merge account didn't cost you a penny in set up fees or monthly cost. And even in this ideal situation, with the maximum reasonable advantage compounding over the course of the entire mortgage, out of $963,000 in payments, the money merge saves you about $10,000 at the very end - just over 1% of total payments, heavily discounted for time value of money thirty years from now. That's not the "pay your mortgage off in twelve years for the same payment!" come on used by the most popular of these! Were I the regulatory authorities, I'd be looking very hard at their advertising!

But most people don't pay their mortgage off in this fashion, and these accounts are not free - or at least I've never heard of one that was. Most people refinance or sell within three years. When they do that, the accounts have to be set up again - which requires new set-up fees. In the example given above, that $10.37 per month compounding for three years is worth $407.92 - and that's if there are no countervailing expenses.

In point of fact, most of these accounts charge a monthly fee that ranges from roughly $1 to whatever they think they can get away with. Plus, there's an upfront cost that ranges from $1995, the cheapest I've seen, up to nearly $6000 depending upon the plan, with most seeming to fall in about the $3500 range. Plus, most of them require you to use a special Home Equity Line Of Credit (HELOC), which costs money in and of itself. The rates on HELOCs are higher than for regular mortgages, forcing you to effectively pay a penalty in interest of having $2000 or $5000 or whatever it is at a higher rate of interest, by usually about 2%. Keep in mind that this is ongoing, and for the entire month. The $2.30 to $8.30 per month this costs directly soaks off a large percentage of the $10.37 putative gain you get. Not to mention whatever the initial costs of the HELOC are. Some are cheap - I've seen others that had thousands of dollars in upfront costs. The HELOC costs, both upfront and monthly, are not relevant to the few plans that don't require HELOCs, but most do.

So with a middle of the line account, you've spend $3500 just to set the money merge (or mortgage accelerator) up, versus $407.92 in benefits over three years, which is longer than most people keep a given loan. Would I do that? Not on your life or mine! Why should I expect one of my clients to do so?

Now, let's consider some alternatives. Remember I told you the money merge account saves you $10.37 per month in optimal conditions, which works out to just about $10,000 saved at the end of thirty years? Well, let's ask ourselves, "What would be my benefit if I just took the $2000 the cheapest one of these costs me and instead used it for direct principal reduction?" In other words, what if you added that $2000 to your regular mortgage payment once? The answer is, for the example above, that you pay off your mortgage four and a half months early, as opposed to about 3.8saving an additional $1800. Using the upfront costs for the cheapest of these that I'm aware of pays the mortgage off sooner than the accelerator account! After the three years that's all most people keep their mortgage, you're still $1985 and change ahead of the poor stupid schmoe who signed up for the accelerator account! For a middle of the line $3500 set up fee, the difference, mutatis mutandis, is $3780 and growing at the end of three years, to the point where that mortgage is paid off 6.7 months early, as opposed to the mortgage accelerator's 3.8, saving thousands of dollars more than the "accelerator"! This doesn't count the monthly costs, HELOC set up fees, or additional HELOC interest charges that the vast majority of these accounts require, and which do siphon off the benefits as noted above.

Keep in mind that with all of this, I've been building a "best reasonable case" to maximize the money merge's advantages. I've mentioned several assumptions that I was making in the account's favor. If any of them changes, the putative benefits basically vanish entirely, or even go decidedly negative.

Now, let's ask ourselves if getting distracted by a mortgage accelerator caused us to not shop as aggressively, or not pay as much attention to the tradeoff between rate and cost as I should have, and as a result, I end up with a mortgage rate that is a mere 1/8th of a percent higher for the same cost. An eighth of one percent is the smallest rate bump in the "A paper" world, and quite often I see differences of a quarter to half a percent for the same loan between various A paper lenders when I'm shopping a loan. What would that cost me if I could have had 5.875% for the same cost instead, even keeping the benefits of the accelerator?

The answer is $35.77 per month on the payment, but more importantly, $46.50 the first month on the interest, and this adds up to $1641.77 less interest paid over the three years most people keep the mortgage, while the $10.37 per month benefit of the money merge put the 6% loan as having a balance that's actually $20 lower. Not counting fees of the money merge account, or anything else - just pure difference on the actual cost of that loan, in the form of interest you paid that you wouldn't have had to. How does that sound: Even if everything about the money merge was free, you'd be getting a $20 lower balance over three years in exchange for having spent $1600 more on interest. If you offered people $1600 for $20, what proportion do you think would take you up on it? If you offered them $20 for $1600, how many suckers do you think would go for it, even if you personally begged ten million people?

For those of you who may be loan officers - or real estate agents - reading this, can you point to one single putative benefit that you would think worth the cost that lenders charge to sign up for these programs yourself? As I've said, I can't. There is nothing here that justifies the wild ways in which these are being marketed, and the ridiculous promises that are being made about them. In point of fact, I can think of only a few possible reasons to sell these:

• Eyes only for a commission check (probably number one in terms of the overall market)


• You don't understand what's going on, took some marketers word, and haven't done the numbers yourself (hardly a recommendation of your services or professionalism)


• You just don't care about your clients welfare

A year and a half ago, when these started being marketed, I wrote about the broad outlines. Never had the urge to hose a client by selling one, so didn't really investigate any further, although I wrote that the benefits were quite minimal as compared to the costs a few months later. But the ridiculous promises and over-aggressive marketing these have been subjected to in recent weeks have finally motivated me to do a rigorous analysis, and what I see is not "merely" of minimal benefit in even the scenarios most amenable to said benefit, but actually costs more than any putative benefit. I can see precisely zero justification for counseling any client in any situation to pay the money that every one of these I have yet encountered to set it up, as the benefits derived from any of these programs with which I'm familiar never do manage to equal the opportunity costs.

Now before I sign off, the point needs to be made that the psychology the account engenders in the consumer is likely to be beneficial, rewarding themselves psychologically for making what are extra payments on the mortgage, and as far as that goes, the account does accomplish something praiseworthy. But the vast majority of all mortgage borrowers can make extra payments of principal any time they want, for free, and when you consider these accounts strictly on the basis of actual numerical advantage over real alternatives, the costs of the program are literally never recovered.

Caveat Emptor

Sometime today, February 13, 2008, President Bush is scheduled to sign the Economic Stimulus Package into law. Maybe it's already happened by the time this publishes. I've made my opposition plain from the time it was first proposed, but it's going to be law effective today.

Ever since it was proposed, people have been going crazy with suppositions on what the increase in the conforming loan limit is going to mean. Except that Fannie Mae and Freddie Mac, who buy conforming A paper loans, are mostly private corporations. In fact, the limit of how big the loans they want to buy is what really determines a "conforming loan", as in "Conforming to the underwriting requirements imposed jointly by Fannie Mae and Freddie Mac." How big the loans they want to buy is really up to them, and it's only been a couple of months since they decided not to raise their conforming loan limit for 2008.

Here's some text excerpted from an e-mail I got February 12 from one of the biggest lenders in the business:

As you are likely aware, the House and Senate recently passed the Economic Stimulus Package, which includes increases to standard GSE (Fannie Mae and Freddie Mac) loan limits and Federal Housing Authority (FHA) loan limits.

It is likely that the bill will be signed into law by the President as early as tomorrow, Feb. 13. We would like to let you know what to expect from DELETED once the bill is officially signed into law. We will follow up with additional messaging as we learn more from the GSEs and FHA about timing and availability.

Several steps must occur before DELETED can accept applications with the higher loan amounts in the bill, including:

• First, the GSEs and FHA must assess their internal impacts to determine the delivery approach they will require of mortgage lenders and investors.

• Second, GSEs and FHA must communicate their requirements to mortgage lenders and investors.

• Third, DELETED will work to identify impacts and implement the changes as quickly as possible.

Due to these necessary steps, the higher loan limits offered by the GSEs and FHA as a result of this bill will not be immediately available to our clients (higher loan limits are available through our non-conforming product offerings). (emphasis mine)

High-level Details of the Stimulus Package

Details of the GSE/FHA requirements are not finalized; however, outlined below is some information regarding what is expected as a result of the new law:

Overall

• The increases are a temporary solution for some high-cost areas based on Metropolitan Statistical Areas (MSAs).

• The higher loan limits will not be immediately available. (emphasis mine)

• Changes related to FHA Modernization were not included in the Economic Stimulus Package.
GSE Loan Limits

• Loan limits may be as high as $729,750; however, $729,750 will not be the nationwide loan limit (emphasis mine).

Increases will be available in high-cost areas based on the median area sales prices and will follow the standard HUD mortgage limit calculation process.

• To determine high-cost areas, the calculation factor will increase to 125% of the area median sales price (emphasis mine).

• The increase applies to loans originated from July 1, 2007, through Dec. 31, 2008.

FHA

• Loan limits in high-cost areas may increase to as much as $729,750.

• To determine high-cost areas, the calculation factor will increase to 125% of the area median sales price.

• The increase applies to loans with a credit approval issued prior to Dec. 31, 2008.

Please watch for more detail in the near future as we learn more about timing and availability.

In short, it's temporary, and it's based upon the median sales price in your MSA. In order to hit the $729,750 limit, the median sales price in your Metropolitan Statistical Area has to be $583,800. San Diego just barely makes it, and the Bay area blows it away. Orange County makes it handily. LA just barely makes it. Honolulu is the only area outside California I see that makes it to the maximum. I don't see any others on the list that make it (Manhattan is only a small part of the New York MSA).

Furthermore, as the email said and I've been explaining to people for weeks, just because Congress raised the conforming loan limit doesn't mean Fannie and Freddie have to buy them. FHA yes - that's a federal agency. But Fannie and Freddie are mostly private corporations these days. They're certainly going to give weight to what Congress has indicated it wants them to do, but they're not going to completely ignore actuarial concerns, and the bigger the loan, the worse the consequences if it should default. I'd expect Fannie and Freddie to raise their limits, but until they say that their limits have been raised, all of the lenders have to keep the old conforming limit of $417,000.

Want more information, or hard information for your area? here is a .pdf of the most recent data available by MSA. 125% of those numbers is the maximum, and this should get pretty close. For hard numbers, we're going to have to wait for the FHA, Fannie, and Freddie to release them to us. They're the ones who have to apply the law, and tell us what they will and will not fund.

Caveat Emptor

UPDATE: (March 6th) FHA has now announced their new conforming loan limits. I expect Fannie and Freddie to follow as quickly as they can.

Our home isn't worth what we owe. So say you were just an average person selling and buying a house, meaning you put your house up for sale, get a contract to purchase on it then go put in offer in on a new house. Then you generally get a pre-approval, then the loan from a lender for the new house prior to closing on the old house. You then go to the closing sign the papers for your old house and then afterwards sign the papers for the new house. How would the lender giving you the new loan know that you were short selling the old house when everything happens the same day? It's not going to show up on my credit for at least 30 days and by that time I will already own the new house. Get it? Is this possible?

This is not the first time such a scam has been tried.

The loan application asks you about what property you own now. Falsify it, and you're likely going to spend a few years in Club Fed. Since it's unlikely you'll make mortgage payments there, this will compound the problem (Just try this on the judge: "I couldn't pay because I was in jail for lying about my financial situation, so it's not my fault!")

Furthermore, the current mortgage is going to show up on your credit.

The condition the underwriter is going to put on the new loan approval is going to go something like "Show property has been sold and debt paid in full"

Believe me, they're going to investigate. They're going to want a copy of the purchase contract and a payoff on the loan for it. Since the debt isn't going to be paid in full, they're going to figure out that you've got a short sale going on. It's not going to happen "same day" if there's a short sale. They're going to want to verify that the other lender is not going to pursue a deficiency judgment. If you're still going to owe the other lender money, the payments are going to hit your debt to income ratio (DTI).

All that said, if you come clean about the situation starting with your loan application with the new lender, it's possible you'll still be approved - just not the same day you close on your sale. They're going to want something that says your current lender isn't going to pursue the deficiency, but it is possible. Theoretically speaking. They're also going to want to figure out what you're going to owe the Revenuers, and how you're going to pay it. Then they're going to take that into account in underwriting the new loan.

(NB: With HR 3648, the Mortgage Forgiveness Debt Relief Act of 2007, this may be zero on the federal level but there may still be consequences on the state and local level. Check with your CPA or EA for more information)

But trying to hide the situation is pretty much going to be a guaranteed rejection. Furthermore, whether or not you intended fraud, if you'll look up the legal definition of fraud, what you were asking about falls well within that definition. I wouldn't be surprised to find the FBI paying you a visit. In fact, I'd be surprised if they didn't. Banking fraud having to do with amounts at risk large enough to finance real estate is a serious felony. ALWAYS tell the truth, the whole truth, and nothing but the truth on a loan application. Better to be rejected based upon the truth than accepted based upon fraud.

If you wait until the short sale is consummated to apply for a new loan, there are 13 questions on page 4 of the standard form 1003, the Federal Loan Application. At a minimum, questions a, d, and f (having to do with judgments, lawsuits, and delinquencies) are going to have interesting possibilities, but there is no question that directly asks about a short sale. It does shows up on your credit report for 10 years, as debt not paid in full. Mortgage debt not paid in full, amplifying the failure in the eyes of mortgage lenders. If there's a deficiency judgment, that will show up as well, for ten years from the date of the judgment. I can't recall ever having dealt with someone in this situation; but it's definitely a factor a reasonable person might want to consider in deciding whether to grant you additional credit, right? If your worthless brother-in-law wanted to borrow $1000 despite having stiffed you on other debts in the past, you'd be within reason to consider that fact in your decision as to whether or not to loan the money. Particularly if the purpose of this loan was directly in line with the purpose of prior defaults. The situation is no different with mortgage lenders.

Caveat Emptor