Yves Smith and Adam Levitin, for whom I have enormous respect, argue that allowing underwater borrowers to refinance their mortgages at lower rates would not help the housing market very much. I am not so sure.
Consider a borrower with a six percent mortgage whose house is worth 80 percent of the mortgage balance. Let's also say that it is four years into its mortgage--so it has 26 years remaining on its term. If house prices remain flat, it will be 11 years and 9 months before the mortgage balance drops to the value of the house.
Suppose we were to convert the mortgage to a 4.5 percent mortgage but left the mortgage payment the same. In the first month, the amount of principal payment would increase by 2.35 fold. The borrower would be above water in 5 years and 5 months (I have a spreadsheet with the calculations, should anyone be interested). If house prices rise by two percent per year, the 4.5 percent borrower would be right-side up in less than four years. Helping borrower see a light at the end of the tunnel could really make a difference (I don't see borrower in Las Vegas ever seeing that light, but not everyone is in Las Vegas).
Personally, I would rather see some principal reduction too, but allowing free refinancings on Fannie and Freddie mortgages could materially benefit the housing market.
I would like to see more "streamlined" refinances on conventional mortgages, similar to an FHA streamlined where no appraisal is required. The home owner typically still needs to qualify based on income and credit.
ReplyDeleteThey could have the option of paying additional towards principal to shorten the term with a lower rate or their lower payment could help put some additional cash into the economy.
I'm not a fan of principal reduction...unless the lender has a silent second mortgage in the amount of the reduced debt that is paid when/if the borrower sales or later refinances their home.
Rhonda,
ReplyDeleteI think the silent second idea is a good one. it might be helpful in places like Florida and Las Vegas.
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