Refi boom might not follow bailout

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A dramatic drop in mortgage rates has motivated some homeowners to wonder if they should refinance. A better question might be: Are they able to refinance?

Back when house prices were zooming upward, it was easy to refinance a mortgage. Lending standards were loose: You could borrow 100 percent of the home’s value, you didn’t have to document your income, and no one cared if you had a few late credit card payments in your recent credit history.

Lending requirements are a lot stricter now than they were during the housing boom. In many areas, house values have fallen. The combination of these two factors means that a lot of homeowners will have to sit on the sidelines for this would-be refi opportunity. Over and over, mortgage bankers and brokers say that the lower rates are good news “provided you have the ability to qualify.”

Maybe people already know that it’s harder to get a loan nowadays.

David Kuiper, mortgage planner with First Place Bank in Holland, Mich., says few people have called to ask about refinancing. “It’s starting very minimally, right now, but I think it’s because the word’s not out yet,” he says. So his bank is taking the initiative and calling customers to let them know that mortgage rates have fallen.

Mortgage rates dropped abruptly this week, after the Treasury Department announced that the federal government is taking control of mortgage financing giants Fannie Mae and Freddie Mac. Fannie and Freddie don’t offer mortgages directly, but they buy home loans from lenders, freeing up money so lenders can underwrite more mortgages.

In addition to taking control of Fannie and Freddie, the Treasury announced that it will buy new mortgage-backed securities. The effect of that announcement was indirect, but immediate: Rates on conforming, fixed-rate mortgages plummeted. In Bankrate’s weekly survey, the average rate for a 30-year fixed fell four-tenths of a percentage point from the previous week, to 6.15 percent. And that reflected a small bounce-back: For a while at the beginning of the week, rates had fallen about half a percentage point.

Two myths keep refinancers away

Kuiper says customers don’t necessarily know that rates have fallen so far so quickly. And even if they do know, some harbor a couple of myths. “One of they myths out there is that you have to wait a certain period of time before you refinance,” he says. But that’s only the case with mortgages with prepayment penalties — and those have been rare in the last few months.

Another myth is that the rate has to fall 1 or 2 percentage points before refinancing is worth it. That’s not necessarily true. “It depends on your loan size,” Kuiper says. “Half a percent might be worth it. A full point surely makes it worth it.”

The bigger the loan, the more you save every month by refinancing at a lower rate. But you have to account for how long you plan to remain in the house. If you plan to move out within two or three years, refinancing probably doesn’t make sense because the closing costs are greater than the total savings from reduced monthly payments.

Reasons you can’t refi

Kuiper toils in western Michigan, where prices never skyrocketed and never plummeted, either. They have fallen, though, and that complicates matters for people who want to refinance. “If you did 100 percent financing last year, you may not have experienced the appreciation you need to refi,” he says.

In you live in South Florida, Southern California, Phoenix, Las Vegas or another market where the bubble popped violently, you might not be able to refinance even if you made a 20 percent down payment two or three years ago. Prices have fallen so far in those markets that many homeowners owe more than their houses are worth. Those people can’t refinance unless they have enough cash to make up the difference between the loan balance and the home’s value.

Even if the house is worth more than the mortgage balance, a refinance might not save any money if the new loan would require mortgage insurance. Generally, mortgage insurance is required on home loans for more than 80 percent of a house’s value. Until recently, a lot of borrowers avoided mortgage insurance by getting two mortgages: A primary loan for 80 percent of the home’s value, and a home equity loan (or line of credit) for the rest. The second mortgage was called a piggyback loan.

Piggybacks are almost extinct. Mortgage insurance has taken their place. The price of mortgage insurance will force some would-be refinancers to decide to keep their existing loans.

Then there’s the matter of lending standards. Low-documentation mortgages were popular during the housing bubble. A lot of these borrowers exaggerated their incomes so they could qualify for loan amounts that they otherwise wouldn’t have been able to qualify for. Now every lender wants documentation of income and assets. That requirement stands as a barrier to refinancing for some who currently have low-documentation or stated-income mortgages.