bad mortgages
Bailout or Rescue?
I am intrigued by the details of this subprime bailout.
The mechanism of the bank foreclosure is critical to understanding what is likely to happen to our $700,000,000,000.
Banks (any financial institution holding the mortgage) incur a large number of negative cash flow items when they move to foreclose on a property:
- property taxes
- home insurance
- hazard insurance
- grounds maintenance (lawns etc.)
- home maintenance (cosmetic repairs and functional repairs)
- lawyers fees to file motion to foreclose and evict
- removal of items left in the vacated home.
- utilities (prevent freeze in winter)
- real estate fees
- lawyer fees to transfer title etc.
This is a double whammy because in normal times all of these items are zero cash flow items from the bank’s perspective. They receive positive cash flow from the monthly payments – double trouble.
With the large number of at risk mortgages in any one bank’s portfolio, it was almost impossible for most banks to follow a normal timeline for foreclosure. Not because they were being compassionate, but because they could not afford the costs of executing the foreclosure (listing above).
We were sold the idea of “rescue” versus “bailout”. It was implied that the reason for the bailout was to keep people in their homes. BS.
Did anyone ever mention any limits on the type of home or homeowner that would be eligible for this special treatment? And it was special. The law allows for past forgiveness, payment initiation period, reduced principle and reduced interest rates. Does this mean that someone with a $1,000,000 subprime, no principal, mortgage could have the principal of that mortgage reduced to say $500,000. Could the owner of this home be someone making $250,000 per year? I did not see any limiting conditions, do you?
Could the property involved be a set of 6 townhouses? Maybe the owner did not do the math on the investment properties correctly? Could the Treasury Secretary decide to reduce his principal and interest rate?
Wait, it gets better. To simplify and expedite the bailout, it has been suggested that the Treasury just write a check to the banks. Let them deal with the individual properties. But if this happens, then the banks will just proceed with the foreclosures. Use our money to cover the out of pocket foreclosure expenses. Wait a year or whatever until the housing market rebounds. Then flip the houses for a profit. It is “pay off your friends in the banking industry” time.
How does the mortgage application process work?
To qualify for a mortgage there are a number of factors. The application often can take several days to complete as you gather information. The saddening part of most mortgage applications is the time it takes for denial or approval, often weeks, sometimes months.
First there is your credit history and credit score. But that really just establishes the interest rate and percentage down payment requirements. The exception to this would be extreme cases. A minimum credit score seems to be about 550 to 600. The higher your credit score, the lower your interest rate. The higher your credit score lower the required down payment.
Second is your ability to pay monthly. In the past, this was typically 30% of gross household income. If there were other time payments (car, cottage, boat), depending on the size and their history, these monthly payments might be included in the upper limit of total monthly payments allowed.
Another filter is the 3 times factor which would set the maximum amount of loan for the individual. This means that 3 times the gross annual income of the family is the ceiling for indebtedness for the family. Depending on the situation, cars, boats, credit cards and so on are included in this total.
The next factor is the down payment. Depending on credit score and type of loan (conventional, special, FHA, HUD, VA) there may be rules which apply, perhaps 5% down.
The next factor is the need for Private Mortgage Insurance. In the past, this was required by the underwriter if equity in the property was less than 20%. The cost of this insurance is dependent on factors similar to the mortgage evaluation.
The last major factor would be evaluation of the property by an independent real estate appraiser. This evaluation would be sourced not only from local similar sales but also from a formula reflecting the features of the home and property.
There are other factors but the point to be made here is that someone is charged with the responsibility of checking out the individual for credit worthiness and the property for true value. Depending on the results a number of punitive conditions apply including:
- higher interest rate
- shorter term
- higher down payment
- monthly payment limits
- total loan amount limits
- private mortgage insurance
That is how the mortgage application business was designed to work.
The financial institutions have become more creative in recent years with:
- mortgages which included interest only and no principal payments,
- mortgages below prime for the initial years which catch up with balloon interest and principal payments after the initial years. Subprime mortgages.
- negative amortization with catch up balloon payments
- and others I am certain of which I either have not heard or do not understand.
OK, that’s how mortgage applications are completed. Here’s a summary of available mortgages:
- simple mortgages with yearly principal payments
- amortized mortgages which reduce the monthly payment by including an additional overall cost in the mortgage.
- amortized mortgages which are 30, 35, 40 years in length.
- creative mortgages with special interest rates, delayed interest payments, no principal payments and so on…
Confusion as a tactic becoming more common.
Have you noticed how an authority figure such as scientist, lawyer, banker, doctor or politician, tends to drift into technospeak on most issues these day? Have you also noticed that often you understand less at the end of the discussion than you did initially? Do you recognize that this technospeak is often just a tactic to cover up the speaker’s lack of understanding of the issue. And finally, do you recognize that this technospeak is often a tactic to purposely confuse us to hide the real self-serving purpose of the issue?
This current financial crisis is a classic example of technospeak. I am obviously using that term loosely as the discussion here is actually economic gooblygook.
Secretary Paulson is begging the government to provide $700 billion, billion with a b of taxpayer dollars. He wants this money to prop up some financial markets on Wall Street. Has anyone looked at the Wiki bio on Secretary Paulson. His career prior to the Treasury Department was Wall Street. Specifically one of the prime actors in this current crisis. It is estimated that Secretary Paulson has a net worth of $700 million. Has anyone asked him how much of that is in Goldman Sachs stock or investments? I assume because of his past position at Goldman Sachs in 2005 and 2006, that he had a significant stock position. What is it now?
I do not know the answer, but I suggest that it was liquidated when the stock and stock options were of real value. Why would he liquidate all of the GS assets? Perhaps he did it to separate himself from Wall Street influence as required by his new government position. I wonder why he did not just escrow his assets like most government employees in powerful positions?
I am assuming that Secretary Paulson bailed out of Wall Street. Perhaps I am incorrect. I believe that many of the Wall Street tycoons who have seen the stock in their companies plummet somehow sold out before the crashes over the past couple of years. Somehow they smelled something and bailed. Senator McCain and others brought legislation to committee to revamp the Fannie Mae and Freddie Mac operations in 2005, primarily to institute more oversight and regulation of their operations. This legislation was buried in committee and never came to a vote. Please note that both houses were controlled by the Democrats at that time.
OK, what am I getting at. I complain about transparency and then I am obtuse. Other posts will deal with types of mortgages, how a mortgages is approved and what happened.
What are these mortgages in this financial crisis?
To understand which types of mortgages are involved in the financial crisis, let’s have a look at what types are available. In simple English, here is a description of several types of mortgages…
1) Simple mortgage – no amortization:
An individual borrows $100,000 at fixed 5% per annum for 20 years. This loan is repaid as follows – First year Interest of $1250 would be paid April 1, July 1, October 1 and January 1 – Principal of $5000 would be paid every January 1. Each year the interest payment is 1.25% of the outstanding balance quarterly, the yearly balloon principal payment is 5% of the original balance, that is $5000. At the end of 20 years the debt is zero. There are two inconveniences with this type of mortgage. The first year contains the largest interest payments and largest total payment for the year. Secondly, the debtor must be disciplined enough to save $100 a week in an escrow account, so that $5000 is available for the principal payment due on January 1. Please note that the total of the interest and principal payments the first year is $10000. The second year is $9750. The third year is $9500. And so on until the last year which is $5250. The total money paid, interest and principal over 20 years is $152000. This is a simple mortgage and not popular in today’s ‘me now’ society.
2) Let’s compare it to the typical 20 year fixed 5% mortgage with amortized payments in today’s market. Monthly payments are fixed at $659.96. The total cost of the mortgage over 20 years is $158390.40.
3) Here’s the data for a typical 30 year fixed 5% mortgage with amortized payments in today’s market. Monthly payments are fixed at $536.82. The total cost of the mortgage over 30 years is $193255.20.
Accordingly, your reward for paying more per year early in the life of the simple mortgage contract will be $6390.40 when compared to an amortized 20 year deal. That is over 6% of the original loan amount. You must sacrifice some disposable income initially and you must establish some financial discipline. Again, your reward is over $6000. Moving on to the 30 year deal. The reward becomes $40755.20. That’s over 40% of the original loan amount!
Stop the pontificating!
Unless you were one of the 10 dissenting votes on the deregulation bill, stop with garbage. Perhaps McCain slides by being absent, but it was his guy, Gramm, who brought the bill to the vote.
Is there anyone out there that is willing to discuss this issue transparently?
As I see it …
Even in elementary school, the students have a better grasp of our economy than our politicians and the movers and shakers on Wall Street. No matter how many MBA’s you have from Harvard and Stanford, arithmetic is still arithmetic.
This whole crisis starts when someone offers a loan which they do not consider secure, which they fear will not be paid back on schedule, It does not matter why…
- inflated property values
- fraud within the evaluation process
- lender has few if any additional assets
- lender has questionable income sources
- lender has unverifiable income sources
- lender income does not meet sensible payment guidelines.
- inappropriate guidelines for mortgage brokers
- fraud within the mortgage broker process
- inappropriate guidelines for underwriters
- fraud within the underwriting process
A questionable loan was offered, billions of dollars of them. We all can understand a few mistakes, favors for friends, even some fraud. But billions of dollars worth of mistakes, favors and frauds are a stretch, don’t you think?
After the first step, it is easy to see what happened when you know the players. It’s the old CYA boys. OK, we have some questionable paper here, let’s wrap it up with some good stuff, make it into a derivative and sell it to pension houses and overseas. The arrogance of Wall Street and the banking system amazes me. But someone still had to write the original mortgage – how did hundreds of billions of dollars worth of bad mortgages get approved?
Then for the icing on the cake the Wall Street boys bail out of their own company stock before it crashes and burns for selling derivitives which they knew had no hope of paying out. There must be a place in prison for these people. Martha tells a few white lies to the feds about chump change insider trading and and she got prison, fines and restitution. In comparison these guys should get personal and corporate bankruptcy and life. Sounds like a plan to me.
Furthermore, she did not victimize pension plans across America. She did not bilk our foreign allies. She did put unreasonable strain on our foreign affairs which are already at disaster-like low levels.
Is there anybody out there thinking about the good of the country. These asses on Wall Street are making millions of dollars while they destroy this country. When is it enough money that you start thinking about the consequences of your actions? Sorry to sound anti free enterprise here, but with freedom and rights comes responsibility and accountability. I guess I truly am naive because all I can see are a bunch of bullying pigs in Washington and New York fighting over the carcus of the American citizen.
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