Certainly the new $75 billion foreclosure prevention program is big news from last week. And, at first glance, it seems like the plan will do a good job to help people who are making their best efforts to pay their mortgages, but are struggling and headed for trouble. Plans in the past only helped people that were behind on their mortgages — meaning you would have needed to train-wreck your credit before you could really get any help from your lender or loan servicer.
The full details of the plan are set to be released on March 4th, so until then, you can search some other sites for speculation on who it is going to help and how it is going to help, but technically and mechanically speaking, I am not sure that anyone has a clear understanding of how to “sign me up” just quite yet.
One of the issues in the package has to do with helping people who could save hundreds of dollars per month by refinancing, but are not able to because they are upside down in their current loan to property value percentage (initial indications are up to 105% loan to value ratio). With foreclosures and distressed sales continuing to be more and more too common, appraisers are required to use these as comparable sales, bringing appraised values down across the country. Lower values = less equity = no room to finance in closing costs = no ability to refinance.
Interestingly, both Forbes and CNN Money have reported that homeowners must have 20% equity in their homes to refinance — this is absolutely FALSE. I have emailed both publications and received strange responses from each (I’ll save that post for another day). Assuming you have a high enough credit score, the income and the employment history to qualify for a conventional loan, you need 5% equity in your home in order to refinance. (This also assumes that the county you live in is not currently designated as a declining market, in which case, the loan to value could be reduced — and in that case, you might need 10%, 15% or 20% equity).
For example, if your home’s current market value is $300,000, the maximum loan you can do is 95% of $300,000, or $285,000. If you only owe $275,000 on a first mortgage on your house, then you can refinance. And financing in the closing costs and the interest to payoff your old loan, your new loan amount of $280,500 would be less than the limit of $285,000 (notice that I said $275,000 on a FIRST mortgage).
Having a second mortgage complicates the situation.
Many home purchasers used a combination of a 1st and 2nd mortgage to avoid paying monthly PMI and even more consumers have second mortgages on their homes in the form of debt consolidation loans, home improvement loans, fixed rate 2nd mortgages and home equity lines of credit. When you refinance your first mortgage, if you plan on leaving the second mortgage as-is, you have to get permission from them to refinance. The 2nd mortgage company has to agree to remain a 2nd mortgage even once the new 1st mortgage is put in place. The 2nd mortgage company has to agree to be a subordinate lien to the 1st — and, as part of the refinance process, we have to send off a request to the 2nd mortgage company for this subordination. (The request usually involves a copy of the appraisal, credit, employment and income information and an administrative fee of $100 to $200.)
The 2nd mortgage company wants to make sure that they are not getting squeezed out of the deal. And while the original terms of the 2nd mortgage (at the time of purchase) may have been 100% financing or 95% financing, this will not mean the second mortgage investor is willing to take a similar risk. In most cases, 2nd mortgage investors are looking for 5% un-mortgaged equity (like the 1st mortgage guideline) but some have asked for 10% and some more than that. And if the 2nd mortgage won’t agree to subordinate to the first mortgage, unless you have the cash to paydown the 2nd mortgage to their target preference, your refinance just got roadblocked.
Would the refinance help you make your mortgage payment? Yes. Would it save you hundreds of dollars per month and thousands of dollars each year? Yes. Does it mean that the 1st mortgage loan amount will go up slightly to cover the closing costs, putting the 2nd mortgage lender in an even worse position than they are already in? Yes. So is the time and energy spent trying to refinance (and the application and appraisal fee that you spent) all for naught? Pretty much.
Maybe the new housing initiative will address this issue . . . my guess is that it unfortunately will not.
Jeffrey Pinkerton is a Mortgage Consultant and President of Hillside Lending, LLC and writer for “the Mortgage Blog.” Hillside Lending seeks to provide mortgage brokerage services with the highest standards of service, care, honesty, integrity and value; concentrating on owner-occupied, residential financing. For more information about available programs and interest rates, please visit http://www.hillsidelending.com.