Mortgage rates: Low payments vs. risk
Mortgage rates: Low payments vs. risk
DONNELLE ELLER AND S.P. DINNEN
REGISTER BUSINESS WRITERS
March 19, 2006
On cable TV, seven times each day, 49 times each week, real estate agent Steve Wolvers hawks beautiful homes, below-market interest rates and rock-bottom monthly payments.
Too good to be true?
Not so, says the veteran Re/Max agent, who works with clients to find “creative financing” options that help keep monthly payments low.
“When I tell you there’s 200 different loan options, I mean that,” said the 47-year-old Wolvers, rattling through how interest-only, 3-2-1 buydown and other options work. “Twenty, 30 years ago, everybody said you have to have a 30-year fixed mortgage. In today’s society, I don’t believe that’s true.”
Loans like the ones Wolvers promotes are growing in popularity, experts say. Among the reasons: Higher interest rates, a slower real estate market and increased mobility that makes short-term financing more attractive.
Fantastic deals might get families inside a house, but they also may make it difficult to stay, consumer finance experts say. Iowans, who once trailed the nation in foreclosures, are now losing their homes at a rate that exceeds the national pace, according to statistics. While various reasons are to blame, experts say the growing use of nontraditional loans plays a role.
The loans are “good for the mortgage company and the real estate salespeople, but not much good for anyone else,” said Holmes Foster, a former Iowa Division of Banking superintendent.
Financing options
At his Bondurant office, Wolvers talks knowledgeably about the special financing options he promotes on TV, on his Web site and on fliers.
Among the more fetching options: Interest rates at 1.9 percent, about 4 points below current market rates, and payments as low as $565 for a home selling for $200,000.
Wolvers readily acknowledges that some of the loans are risky. And some require financial discipline from borrowers who may be far from demonstrating it. For example:
• With a 1.9 percent loan, that initial interest rate changes after as little as a year and continues to fluctuate, said Jack Guttentag, professor emeritus of finance at the University of Pennsylvania. At some point, the borrower will be required to pay any accumulated interest and principal. The new payments, Guttentag said, “can result in a nasty payment shock.”
Further, he said, the discounted interest rate could leave a buyer owing more on the house than it’s worth.
• A 100 percent financing, interest-only loan can get families low monthly payments, but they will have no principal repaid unless they pay extra on the mortgage each month.
With those loans and others, most buyers eventually will be walloped with much higher payments, experts say. The unprepared may find themselves either forced to refinance at potentially higher interest rates - or find they must move or seek bankruptcy.
“You will have to pay the piper,” said Jerri Scott, who teaches home-ownership classes for Iowa Citizens for Community Improvement. “Personally, I don’t mind taking a risk with a mutual fund, but not my home.”
Mike Fratantoni, a senior economist at the Mortgage Bankers Association, said a loan resetting to a higher payment can trigger financial distress.
“The question here is if you’re saving $200 a month by having an interest-only loan, what are you doing with that $200?” said Fratantoni. “If you’re not careful with what you’re doing with the extra cash . . . and not planning for that future increase in payment, then you’re in trouble.”
Interest-only loans made up 23 percent of the total dollar loan volume nationwide in the first half of 2005, according to the Mortgage Bankers Association. The loans were 17 percent of the total volume in the second half of 2004.
Finding the right loan
Wolvers said he wants no one to be in a worse financial situation after buying a home from him. An interest-only loan isn’t for everyone, he said, and neither is a 30-year fixed mortgage.
“I don’t believe people have to do a 30-year fixed,” said Wolvers. “I don’t believe it’s to their best advantage.”
Like a mantra, Wolvers repeats that Americans are unlikely to live in a home longer than five to seven years. And if they do, they’re likely to refinance. So consumers are spending money for the guarantee of a long-term fixed rate they are unlikely to fully realize.
“I never had a client come back to me and say, ‘Gosh, Steve, I wish you would have let me pay the banker that extra money,’ ” said Wolvers.
Fratantoni said a home buyer should consider how long the family is likely to live in their home. And they should consider their financial situation now and in the near-term.
Some unconventional financing options might make sense for young professionals whose incomes will grow rapidly. Or for parents who expect to be finished with their children’s college expenses in a few years. It also could make sense to use money saved with the loan to eliminate high-interest consumer debt - credit cards and car and student loans, for instance.
Scott, the home-ownership counselor, acknowledges that the loans could be right for some buyers. But she fears the odds are against spenders who have racked up thousands of dollars in debt.
“You really have to change your life,” she said. “It’s like saying you’re never going to have another drink or smoke another cigarette.
“Serious bad habits and life situations get in the way,” she said.
Wolvers agreed that those who fail to use the money to eliminate debt will find themselves in deeper.
“My biggest frustration is that not everybody does what I show them they’re supposed to do,” said Wolvers. “When they get out of debt by about month six, they’ve figured out they’ve got extra income and they go buy a boat or a new Jet Ski.
“Unfortunately, you can’t control their money. But you sure can educate them,” he said, adding that about 90 percent of those people will use the time to pull themselves out of debt. Those who don’t are likely to be forced to move, said Wolvers.
Job loss
Cindy and Tim Faucz, who bought an Altoona home from Wolvers with an interest-only loan three years ago, said the lower payments have worked well.
They paid extra for the principal until both lost their jobs about a year ago. Then they dropped down to the lower, interest-only payment until they found new jobs, said Cindy Faucz. “I would be afraid of what would have happened with a conventional loan and higher payments,” she said.
A part-time accounting student, Faucz said she knows some people don’t have the discipline to pay extra on their mortgage. She escrows her own taxes and insurance payments, something she likes because she can place the money in an interest-bearing account.
Consumers also may encounter other financial surprises.
Wolvers talks only about the mortgage payment, but the costs of insurance, heating and cooling and upkeep will be considerably higher if consumers use the loans to buy as big a home as they can. And key to Wolvers’ “low monthly costs” are tax abatements that disappear after four to five years.
Scott and Foster say it’s easy for families - especially those who haven’t developed saving habits - to get into trouble. They may not plan for the eventual higher mortgage or tax payments.
“Anyone gets sick or loses a job, there’s no cushion,” said Foster.
Fratantoni said lenders and regulators worry that families are using the unconventional loans to stretch - possibly too far - their purchasing power.
Foster thinks that even a small decrease in home prices could cause “a fairly large calamity across the country.”
“If something happens in the economy that affects wages or employment, we could be a little like New Orleans - the jobs aren’t there, the houses aren’t there, but the mortgages are.”
Said Scott: “For most people, I would be very careful and look at it with an eye toward the worst-case scenario.”