Hearing the term “underwater mortgage” has become commonplace ever since the market crash in 2007 - 2008. During the housing boom, consumers were snatching up overpriced homes like kids in a candy store, signing for loans they knew they couldn’t afford but hoping in time they would.
It took two parties to bring down the market--subprime lenders and borrowers. Some lenders acted like Willie Wonka himself, haphazardly handing out mortgages like untested Gobstoppers, only looking at the dollar signs at the end of the day.
However, when the chocolate-covered bubble finally burst, everyone had egg on their face. On the subprime mortgage side, numerous lenders closed their doors, contributing to the unemployment crisis. Although lenders suffered losses, the borrower was the one who was really left holding the bag.
Millions of homeowners found themselves stuck in a home they couldn’t afford, making payments that extended beyond their income level and in a home that was rapidly depreciating. Approximately 11 Americans owe more on their home than what it is worth today and in many cases, when they purchased their inflated-priced homes at the height of the market; they paid a considerably higher mortgage loan rate.
As rates descended almost as fast as property depreciated, homeowners flocked to lenders hoping to refinance in order to save their home with a lower their payment. However, along with the market crash came tighter lending restrictions--no one wanted to get burned by offering a mortgage loan to a borrower would possibly couldn't afford the payments. While borrowers with strong credit who were not considered to be “underwater” in their mortgage struggled with refinance, the “underwater” homeowner was generally left out in the cold.
Although programs like Home Affordable Modification Program (HAMP) and Home Affordable Refinance Program (HARP) were constructed, they still did not reach many underwater homeowners due to the unbalanced appraisal process.
After more than four years slugging it out in a deeply depressed market, underwater borrowers are finally starting to see more options for refinance.
1. HARP 2.0 Allows Borrowers to Resurface
Newly redesigned, HARP 2.0 has removed some of the roadblocks underwater borrowers experienced previously with a new program that provides refinance options for millions of struggling homeowners.
New program features:
- Designed to help homeowners who owe more than their house is worth
- The 125% LTV cap requirement has been removed, allowing borrowers who are considered to be “deeply” underwater to refinance
- Borrower must have a conforming loan owned by either Freddie Mac or Fannie Mae
- Borrowers must be up to date with payments, never missing more than one payment over the past year and missing no payments within the past six months
A hypothetical example is if the borrower has a $200,000 30 year fixed loan financed during the height of the market at 8%. If the loan has 10 years left the homeowner would still owe about $121,000 of the principal.
If borrower can refinance into another 30 year fixed product at 6% (although some homeowners can obtain rates much lower), the homeowner’s payment would go from $1,470 to $720 a month. The only stipulation with refinancing through another 30-year mortgage is that the borrower will now have to start over paying off the loan. Instead of automatically going for the 30-year product, consider the 15-year or a 5/1ARM and compare and contrast the short and long term savings to determine which situation produces the best for you.
2. HAMP May Be Your Next Best Option
For those who do not qualify for HARP due to missed payments or may be in immediate jeopardy of losing your home (or foreclosure), HAMP may be your next best option. HAMP is not a refinance program, but one that can reduce your payments. HAMP qualifications include:
- You must be able to demonstrate financial hardship that would put your mortgage in danger of default
- Your mortgage must be owned by Fannie Mae or Freddie Mac
- Your modified loan’s monthly payment must be equal to a target 31% of your monthly gross income
An example of a homeowner who would qualify for the program is one who has a monthly income of $6,000, a mortgage loan of 6% and 25 years left on the term. The current loan amount is $400,000 (taxes, insurance and assessment fees equate to $5,000 annually) and the borrower has demonstrated to the lender that there is a hardship and an immediate danger of default.
If the bank lowers the interest rate by 2% and extends the loan to 40 years the borrower would pay $1,211 ($1,628 per month with taxes, insurance and fees). Since this example would be at 27% of the homeowner’s monthly income, he would qualify for modification.
3. FHA Short Refinance - If You Aren’t Owned By Freddie or Fannie
Homeowners who are underwater in their mortgage loan, but do not have a loan owned by Freddie or Fannie can turn to the FHA Short Refinance program for relief. Requirements include:
- You must be up-to-date with your mortgage loan payments
- Debt must not exceed 55% of the borrower’s monthly gross income
- Borrower cannot have been convicted of felony larceny, theft, fraud or forgery, money laundering or tax evasion, in connection with a mortgage or real estate transaction within the past 10 years
- Borrower must have a credit score of 500 or better
- The new refinanced loan must have an LTV of no more than 97.75%
Bankrate.com furnishes the following example, “If a homeowner owed $185,000 on a house worth $150,000, the write off wouldn't be $18,500, or 10% of the debt. Instead, the write off would be $38,375, or almost 21% of the debt, to reduce the loan to $146,625, or 97.75% of the value.”