A primer on the subprime situation
WESTCHESTER COUNTY
BUSINESS JOURNAL
www.WestchesterCBJ.com
For those unfamiliar with the term, "sub-prime home loan" refers to mortgages given to individuals with significant credit issues, or those otherwise unable to qualify for a standard, conventional loan. Due to the fact that these loans tend to be risky for the lender, they generally bear higher interest rates or adjustable rates and often carry steep preŽpayment penalties. Sub-prime loans have actually been around for years — so why all the drama now?
Many subprime and other adjustable home loan rates have moved dramatically higher, due in part to the Federal Reserve Board's recent rate-hike cycle. So as these rates are adjusting higher — and the payment right along with it — homeowners are finding that they are unable to keep up with the dramatic increase in their monthly payment.
In the past, homeowners in this situation would simply put the house on the market,realize enough of a profit to cover any prepayment penalties, and literally move on. But the soft real estate market isn't making this as easy to accomplish as it was in the past — houses are not selling as quickly, and home appreciation rates have moderated.
So the subprime homeowner is often stuck — and many of these homes are falling into foreclosure, causing even more problems. As more and more loans go into default, mortgage lenders are forced to tighten up their lending standards across the board in response, making it tougher for homeowners to refinance to get out of' trouble. Many subprime lenders are feeling the pain, and in some cases, actually being forced to shut down due to the enormous number of defaulted loans and foreclosed properties on their books.
THE IMPACT
In the short term, home loan rates are benefiting causing money to flow into bonds and mortgage-backed securities, which benŽefits home loan rates. But the long-term picture may include higher interest rates as lenders have to absorb the cost of the loans that went belly up, combined with the cost of increased compliance and accountability standards.
In many cases, the advice and loan stratŽegy offered to homeowners way back when was appropriate for the time they took out the loan, but the recent colliding economic events may now be working against them. Unfortunately, many homeowners will pay a steep price for what may have been shortŽsighted advice and counsel given to them at the time of their home purchase or refiŽnance.
While 30 years ago, homeownership was as simple as choosing between a fixed or adjustable rate and a 15-year or a 30-year term, today the choices are complex and often confusing, and unless all the appropriate data is taken into consideration, a prime home loan borrower could easily become the subprime borrower of tomorrow.
A NEW PERSPECTIVE
While mortgages were once viewed as only long-term debt; today's view is that a mortgage should be part of a real estate equity management strategy to help homeowners build and conserve wealth, become debt-free sooner than anticipated and achieve financial freedom. A mortgage doesn't have to be a 30-year ball and chain; instead it can be a means by which the individual achieves financial independence. The key is knowing not only how to set it up correctly from the start, but managing it throughout a lifetime, whether the mortgage is for a first home, vacation home or retirement home.
While each borrower is different, steps to ensuring that your future mortgage doesn't fall into the subprime category include:
- Accessing your credit report at least twice each year; fixing any adverse statements.
- Reducing credit card debt to ensure that the debt ratio is as small as possible at the time of application.
- Always paying your mortgage first, even if something else needs to wait.
- Staying in tune with real estate values so you always have an understanding of what your property is worth.
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