How to avoid going underwater on a mortgage
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| By Holden Lewis • Bankrate.com |
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In the next couple of years, a combination of rising
mortgage interest rates and falling home values could plunge thousands
of homeowners underwater.
Being underwater means owing more than the house is worth. It's an especially risky situation for people with interest-only mortgages and pay-option adjustable-rate mortgages. Some might be able to refinance or get through hard times by living frugally. Others will have to sell their houses, possibly at a loss. Still others will lose their houses to foreclosure.
If you have an interest-only or pay-option ARM, assess your situation and, if you conclude that you are in jeopardy, act quickly.
"I don't think burying your head in the sand
is a viable option," says Neil Garfinkel, an attorney with
Abrams Garfinkel Margolis Bergson in New York City.
Most homeowners will sail through just fine. Two groups of borrowers should look ahead to see if they're heading toward a reef that could sink them.
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Homeowners most at risk of being underwater: |
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Pay-option ARMs are adjustable-rate mortgages that
allow borrowers to decide how much to pay each month. Under some
conditions, the minimum payment doesn't even cover that month's
interest, so the loan balance rises. According to an analysis by
Comstock Partners, a Yardley, Pa.-based asset management company,
70 percent of borrowers who took out pay-option ARMs in the last
year owe more now than they did when they got the loans.
Fathoming the water's depth
How much more? Comstock estimates that 15.2 percent of 2005 home
buyers owe at least 10 percent more than their houses are worth.
Those people made minimum payments on pay-option ARMs, or their
homes' values dropped or both. However it happened, they are underwater,
more than a fathom deep.
A lot of people are understanding their predicament
only now.
"The market has changed in the last three, four,
five months -- dramatically -- and they're not getting from their
houses what their neighbors were getting 12 or six months ago,"
says John Hayes, president and CEO of HomeVestors, the company with
the "We buy ugly houses" billboards.
As short-term interest rates have risen in the last two years, the underlying rates of interest-only and option ARMs have gone up, too. Sooner or later, the minimum monthly payments could rise abruptly, past the point of comfort. It's time to refinance, if possible. (It might be impossible to refinance if you are underwater and you don't have cash to spare.)
Lots of refi choices
There are plenty of loans to choose -- from plain-vanilla 30-year, fixed-rate mortgages to 40-year loans to hybrid ARMs that give you a three- or five-year fixed-rate period before the annual adjustments begin, to more esoteric programs.
Michael Moskowitz, president of Equity
Now, a mortgage lender in New York City, touts a relatively
new product, the 30-year, fixed-rate loan in which the payments
are interest-only in the first 10 years. "For someone who is
long-term in the house -- really long-term -- this is the best product,"
he says.
Such a loan comes with a big payment shock after the
loan's 10th anniversary. By that time, Moskowitz says, the borrower's
income has risen enough to handle the higher payment, or the homeowner
has refinanced the loan or sold the house.
Some people won't be able to refinance, especially
if they are underwater and low on cash. If that's the case, and
the monthly payments are starting to get uncomfortable, says Jim
Svinth, chief economist for LendingTree.com, "Do everything
possible to remain current on their loan by cutting back spending."
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