Let's fix the adjustable-rate mortgage
Posted
Dec 18 2007, 07:55 PM
by
Charley Blaine
Rating:
Here's hoping that, in the aftermath of the subprime-mortgage mess, someone comes up with some standard provisions for adjustable-rate mortgages that apply equally across the country, that everyone understands and that regulators actively and aggressively enforce.
Otherwise, we'll have to go through the subprime mortgage crisis a third time.
A third time? Yes, indeed. It seems to me that the subprime mortgage mess was created by a lot of people with short memories or no memories.
In the early 1980s, as mortgage rates were jumping, the mortgage industry came up with a lot of new mortgages designed to make housing affordable. Many were just as goofy as the weird mortgages we've seen lately as the subprime crisis deepens. In fact, they look like old ideas, dusted off to solve a slightly different problem: how to deal with gigantic price increases.
The results, however, were just as bad. They produced foreclosures, bankruptcies and worse because many borrowers, desperate to buy homes (and not fully unaware of the downside risks) just didn't see what was about to hit them.
And these weren't little-noticed problems. They got plenty of ink in newspapers and lots of time on radio and television.
In fact, I'm astounded that Congress, the regulators, the investment banks and the industry itself were too lazy, in denial or simply too greedy to see what the outcome of making such stupid loans available might be. The record is pretty clear.
My wife and I took an adjustable-rate mortgage out in the mid-1980s. When rates moved higher, we paid more on the mortgage. And yes, it was painful. When rates went down, we got a nice bonus. But there was even a downside to that. One year, the rate cut was so big that our mortgage deduction fell too much, and we had a larger-than-expected income tax bill.
Needless to say, when next we moved, the mortgage on our new house was a fixed-rate loan.
Would I take out an adjustable mortgage again? Not if I can help it. And certainly not without a lot of protections that both the lender and me, the dumb borrower, understand and acknowledge.
So, what would I demand be included in any adjustable loan? For starters, I would have these elements:
-- There's a clearly identified index against which the rate moved up and down. This is not so difficult to do. Our loan was tied to the 1-year Treasury index. It was easy to track. Too many loans use the London Interbank offered rate (LIBOR). I am not wild about it. The rate is too volatile, and it's not easy to track.
-- The rate on the mortgage can't rise more than two percentage points a year off the original rate. I've heard some people are talking maximum reset limits of three or four percentage points. Too much. A loan whose rate rises two percentage points is painful enough for the borrower. On a $250,000 mortgage with a 30-year term, bumping the rate two points increases the monthly payment nearly 20% or $360 a month. A lender might say, "Well, we won't be able to offer low starter rates." So be it. A rate that's too low does no one favors. If the loan can rise more than two percentage points in a year, the lenders are asking for trouble -- and probably deserve it, too.
-- There should be no pre-payment penalties if you sell your house or refinance the loan. That's how it used to be. The Federal Reserve's proposal, approved today, calls for cancellation of the penalties under a number of conditions. The most important is in the 60 days before a loan reset. The Fed should dump that idea now. It's just stupid.
-- There should be limited or no negative amortization -- the adding of payment shortfalls to the mortgage balance. If you're not careful, you end up eating up your equity. It gets everyone into trouble. That's what folks have found out this time around. That's what they found in the 1980s.
-- Phone numbers to all the consumer protection folks within 250 miles of where the house is. And guarantees that someone with authority to solve problems will answer the phone.
Anybody else have some thoughts on this? What have I missed?
