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Monday, May 12, 2008

Consider It Kenneth Fisherism In Action

WSJ has this story charting the progress of a California family now going into Chapter 7. They will lose their home, of course. They owe more than $500,000 on that home and they have five kids. He's a truck driver and she's a clerk. They also have more than $100,000 of other debt. According to the article the BK total is $670,000 including CC, auto, etc.

Act 1: In 1995 they buy a house for $170,000. The downpayment is $11,000. Even figuring high closing costs, they couldn't have started out with a balance over $165,000. So, they must have pulled out somewhere around $340,000 on that house in twelve years to get to their current mortgage balance. That's over $28,000 a year.

Act 2: In 1999 he had a knee operation and was out of work for six months. They ended up filing bankruptcy and made payments for a couple of years. Needless to say, that was rough (they really don't allow you much to live on). I'm guessing that was the motive for...

Act 3: The 2001 refi. I'm sure they pulled cash out, plus financed some hefty fees. Obviously it was a high interest mortgage, because they must have been in BK at the time. Maybe they paid off the rest of their creditors. It must have felt good, and so set the stage for

Act 4: In 2003 they refinanced. I'm sure they rolled everything in. Needless to say the mortgage was probably more than they could really pay then, and so I'm sure they charged up some stuff, leading to

Act 5: In 2005 she was pregnant and went part-time, and they refinanced:
At the time, their house was appraised at $610,000. They took out a $505,000 loan -- roughly $452,000 went to pay off their prior loan, about $15,600 went to other outstanding debts and fees and the Floyds took out almost $23,000 in cash.
Before the last refi, in ten years they had managed to build up their mortgage balance to the tune of at least $290,000. It looks like they tried again in 2007, but no dice. They stopped paying the mortgage in April 2007, and the house is set to be sold in May 2008. Here is where this gets quite bizarre.
By December, the Floyds monthly payments, including back payment fees, reached $5,600. Mrs. Floyd has since asked Option One for loan modification. The couple also contacted Hope Now, a coalition of mortgage companies, investors and credit counselors. But the group said that they couldn't help the Floyds because they'd missed too many months of payments.
Yeah, and they don't have the income to pay a bleeping 500K mortgage! The interest rate is not their real problem. If they were paying IO on this at 7% (prime I-O) their mortgage payment would be over $35,000, plus taxes and insurance. Their joint incomes probably aren't more than 80K, and they have 5 kids, so that makes it effectively 70K max. Hoo-hah.

They didn't have the income to pay this mortgage in 2005, either. But of course Option One did not care, because it looked like they had plenty of equity margin. Option One knew this couple was going to lose the home sooner or later. Option One just didn't think Option One would be taking a loss on it when they did lose it.

FWIW, the 2005 appraisal is suspect. However they probably could have sold it then for about $550,000, and walked away after costs with more than the cash they got out then. They probably had at least $90,000 equity, and they might have been able to exit with 50K to pay all their bills. They would have been way ahead, aside from the rent-free feature of CA RE nowadays. You can pretty much count on getting 8 months free.

So why was this couple even thinking they had a chance to keep the house? This is the quote that got to me:
"I want to pay my debt. I pay my federal and state taxes like I'm supposed to, I go to work, and I just can't find any help," said Ms. Floyd. "It just isn't fair."
It isn't fair? This couple really can't afford a mortgage over 240K, and 210K would be a lot more achievable. To return these people to the ability to pay their mortgage, they need to be bailed out to the tune of 50%. After that Hope Now would probably have to hire a Vinnie to follow them around and break their fingers if they tried to use their credit cards or buy a new car. I don't even know how to express what I am thinking.

You don't want to pay your debt when you have $670,000 of it, less than 80K in annual income, and 5 kids. Obviously that is not this couple truly desires. They want to feed, clothe and raise their kids in an intact family, plus to stay in this house. Which is not going to happen, because the current value of the home is far above what this family can afford to pay on a mortgage. No lender is going to write the loan down more than it would cost to foreclose. The lender should come out at least $150,000 ahead by foreclosing, so that's what is going to happen.

There appear to be so many darned people who lived off their houses in the bubble markets and got themselves in trouble like this.

This is why I got so mad about Kenneth Fisher's screed claiming that subprime lenders were doing a wonderful thing:
If you look at the history of subprime loans, they tend to average about a ten percent default rate. Now we're up around 14 percent. So all this brouhaha is about the increase from that historic ten percent default rate to today's rate of 14 percent.

But a ten percent default rate means that 90 percent of the people who got these loans ended up owning homes that they wouldn't otherwise have been able to buy. The question is: Do we want more people to have homes or do we want fewer people to have homes? My view is more people owning homes is moral and good. Fewer people owning homes is immoral and bad.

We should be encouraging subprime loans. Because it's the way these people get homes.
It's not moving into a home that improves a family's position. It's being able to live there long-term. Most subprime loans out there are really refis, and the current default rate on 2/28s seems to be about at 50% for some portfolios.

Subprime lending is only moral and good if it stops at the point at which the borrowers have a reasonable chance of paying off their loans. Beyond that, it's just predatory lending.

I don't believe that Congress or any agency should be in any way paying off lenders like this. They need to be driven out of business. I cannot say that this couple was faultless - they would have lost their home far earlier if they hadn't been given all this credit - but I will say that although they are obviously economic doofuses and subprime as subprime gets, it was still not moral or good to load them up with debt past the point at which they could emerge from the situation.

The endpoint for this family is that now they cannot find a rental and the family will be split up. That is what Kenneth Fisherism has created.

There are many similar cases. I find it unutterably tragic that people who could not afford to remain in their homes but did have significant equity essentially had that equity siphoned off by the loan industry. There comes a point for many people when they need to let go of the house and walk with the equity they have. That nest egg helps them find a rental, keep reasonable credit, and continue their lives.

Comments:
Well, it would appear as if someone finished cutting the lawn.
 
I did that yesterday. Had to, it was going to rain yet again.

This global warming is damnably cold and wet.
 
I do hope you had a nice Mother's Day aside from having to cut the lawn.

This story is so incredibly disturbing to me and I know so many people find themselves in this kind of situation. It is really scary.
 
Viola, the same to you!

Yes, this is a very disturbing story. First, how did people in this situation manage to rack up $670,000 worth of debt? We don't really have to look any further to understand what has happened - consumers have been allowed to rack up debt that they can never repay.
 
The most tragic thing is, they had a fixed rate loan to start with. They could have stayed with that loan and they'd still be in their house. I do not get this people that didn't understand the phrase "historically low interest rates". When you have that, you want to lock in the rate, not go with an adjustable.

Global warming out here got us snow the last week in April (didn't stick around, thankfully). It's just barely getting warm enough for a garden. We're letting the goats cut our grass!
 
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