Mortgage Mayhem - a comment I posted at another blog

The following was posted as a comment over at my sister's blog, here is the link http://pereiraville.com/scribble/ so you can read exactly what was being commented on. My sister is really big into this blogging thing, and for a while I was a guest blogger at her site.

Here is what I had to say regarding mortgages...

There is nothing wrong with Adjustable Rate Mortgages (ARM’s) if they are used correctly. I have never had anything other than an ARM on my personal residence. Now, on my rental properties, I have fixed mortgages. Why one way on investment property, and the other for my personal residence.

Well, getting the ARM for an investment property is actually more difficult than it is for a primary residence.

You ask the obvious question, “Why?”

Well, for starters, most of the people who are defaulting have 2 things working against them.

#1. They WERE NOT credit worthy to begin with. Let me reiterate, they WERE NOT credit worthy. What the media forgets to mention in all this hoopla of defaults is the people defaulting on their loans had in most cases already defaulted on most everything else they had ever tried to purchase on credit. It doesn’t take a rocket engineer to calculate the odds of default on a mortgage when everything else they had was paid late at some point in their lives. Hence their low credit score leading to the need for the subprime market.

#2. THEY SIGNED THEIR NAMES TO A PIECE OF PAPER THAT SAID ADJUSTABLE RATE MORTGAGE. No body forced them to sign. The bottom line is this, although they were qualified to purchase based on a “teaser” rate, the simple fact remains you can’t expect to keep making a “teaser” payment on a month to month basis as it will never pay off the loan. The simple comparison is a credit card. We all know that if we only make the minimum payment, it will take 20-40 years to pay off. Imagine making less than the minimum how long it would take. The “teaser” payment is just that, making less than the minimum. Example, a $125,000 mortgage. The “teaser” rate would be around $477 per month. Now the full payment needed to pay off the loan at last years rates (6.25% as an example) would be $770. That means for each payment made of $477, and balance of $293 would be added to the loan balance, and since the loan adjusts on a AGREED upon basis, that not only increases the balance of the loan, but that of the teaser rate as well.

What does that look like. I am glad, let me show you. Let’s assume you made the minimum payment for the first year. You would have added $3516 making your new balance due of $128,516 instead of the $125,000 you started with. Your new “teaser” payment would be $491 with your full 30 year PI of $791. Again, assume you made a full year of payments, your new balance at the end of that year would be $132,116.

Now, here is the killer. ALL loans of this nature have a clause that states that when you exceed a given percentage of the loan, you AUTOMATICALLY default to the new minimum payment equal to an amount that pays the loan off in 30 years. This amount is typically between 105% - 125% of the original loan value. So at 105% when your loan hits $132,150, your payments reverts to a higher payment. Most of these loans have values around 110% - 115% of value, but again that number is driven by the creditworthiness of the person.

And oh, by the way, your new payment in the given example assuming the interest rate doesn’t adjust is $813.

I don’t feel sorry for any of these people. They make great sob stories, but their own stupidity cost them.