Subprime relief: Winners and losers |
| By Holden Lewis • Bankrate.com |
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A consortium of lenders is considering a plan to reduce foreclosures by freezing low introductory interest rates on subprime mortgages. There would be winners and losers under such a policy.
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| Proposed plan details |
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The winners would include those borrowers who qualify for rate relief, their neighbors, and state and local governments. The losers mainly would consist of people who want to buy bargain houses within the next few years.
The policy is bound to annoy homeowners who didn't overextend themselves, and who perceive rate relief as a bailout for irresponsible borrowers and lenders who drove up home prices for everyone else.
According to a Wall Street Journal article, the Bush administration and some big mortgage lenders -- Countrywide, Citigroup, Washington Mutual and Wells Fargo -- are cooking up a plan to keep the introductory interest rates on certain subprime mortgages unchanged. Most subprime mortgages are called 2/28 ARMs because they have an introductory rate that lasts two years and then the rate can be adjusted up or down every six or 12 months in each of the 28 years after that.
A typical 2/28 mortgage underwritten in early 2006 had a starting rate of around 8.25 percent. When the loans are reset at their two-year anniversary, many of these borrowers can expect the rates to climb to 10 percent or higher.
On a $200,000 loan, the monthly principal and interest payment would rise $289 (to $1,792) if the rate jumped from 8.25 percent to 10.25 percent after two years. People get subprime loans because they have credit problems, and a sudden monthly increase of that magnitude can tip their family finances over the edge and send borrowers into foreclosure.
Faced with the reality of rising foreclosures, and the prospect of the problem getting worse, the big lenders and federal regulators have accepted a suggestion made early this year by Sheila Bair, chairman of the Federal Deposit Insurance Corp. Bair proposed that lenders freeze introductory rates for borrowers who could afford to make those payments, but couldn't afford higher payments after reset.
More than 1.5 million of these subprime loans, worth $330 billion, are scheduled to undergo their first rate reset between September 2007 and the end of 2008, FDIC official Michael Krimminger told the House Financial Services Committee Friday, Nov. 30. Most are current, Krimminger said -- but at least 1.1 million "may not remain so after reset."
It makes sense, he added, for lenders to "take a systematic and streamlined approach to restructuring these loans into fixed-rate loans at the starter rate." For one thing, it's faster and cheaper to do it that way than to scrutinize each loan case by case.
If big lenders and regulators adopt the policy, here is a possible list of winners and losers.
Winners
The main winners would be the borrowers who keep their houses instead of losing them in foreclosure. Their neighbors would benefit because they wouldn't have to live near empty, foreclosed houses. Local and state governments would continue to collect property taxes in many cases.
"One doesn't like to renegotiate legal agreements made in good faith," says Jared Bernstein, director of the living standards program for the Economic Policy Institute, a Washington think tank. "But these are very unusual times. Basically, there are a lot of people who shouldn't be losing their homes, who probably would if we didn't take action otherwise."
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