Different Ways For A Busted Refinancing Plan
Posted by Frugal on September 22nd, 2006
I heard about many things on refinancing to get out of the coming ARM reset, and I talked about saving these reset by re-refinancing myself too. But such a successful refinancing depends heavily on the amount of home equity you built up (or the valuation of your home), and is only for people who did not abuse their home equity. If you are an over-leveraged real estate investor, and you plan to refinance your ways out, I think the doors will probably be shut for you. Here are some of the ways that you cannot refi without coming up with extra cash. The following examples use interest-only loan for illustration purpose. Qualitatively things will the about the same if you refi using the same type of loan. But if you go from 30-year fixed to interest-only, or interest-only to negative ARM, your cashflow situation (just for now) will probably look better.
Example #1 (increase in interest rate, with the same payment or affordability):
You need to come up with $49400 to settle the refinanced loan, plus any loan costs of about 0.5% of the property value.
| Now | Refi Term | |
| House appraised value | 700000.00 | 648000.00 |
| DownPay/Home equity | 5.00% | 5.00% |
| 35000.00 | 32400.00 | |
| 1st Mortgage interest | 6.00% | 6.50% |
| Interest Only 80% loan | 2800.00 | 2808.00 |
| home equity rate | 8.00% | 8.50% |
| Home equity interest-only loan 15% |
700.00 | 688.50 |
| Total monthly payment | 3500.00 | 3496.50 |
| Loan balance | 665000 | 615600 |
Example #2 (No change in interest rate, but with a market down by 5%):
You need to come up with $33250 to settle the refinanced loan, plus any loan costs of about 0.5% of the property value.
| Now | Refi Term | |
| House appraised value | 700000.00 | 665000.00 |
| DownPay/Home equity | 5.00% | 5.00% |
| 35000.00 | 33250.00 | |
| 1st Mortgage interest | 6.00% | 6.00% |
| Interest Only 80% loan | 2800.00 | 2660.00 |
| home equity rate | 8.00% | 8.00% |
| Home equity interest-only loan 15% |
700.00 | 665.00 |
| Total monthly payment | 3500.00 | 3325.00 |
| Loan balance | 665000 | 631750 |
Example #3 (Tightening in loan underwriting standard, and with a market down by 5%):
You need to come up with $68250 to settle the refinanced loan, plus any loan costs of about 0.5% of the property value.
| Now | Refi Term | |
| House appraised value | 700000.00 | 665000.00 |
| DownPay/Home equity | 0.00% | 5.00% |
| 0.00 | 33250.00 | |
| 1st Mortgage interest | 6.00% | 6.00% |
| Interest Only 80% loan | 2800.00 | 2660.00 |
| home equity rate | 8.00% | 8.00% |
| Home equity interest-only loan 15% |
933.33 | 886.67 |
| Total monthly payment | 3733.33 | 3546.67 |
| Loan balance | 700000 | 631750 |
The above scenario assumes that you bought the property at the height. You can adjust the amount of the home equity/loan balance/home valuation in the Excel spreadsheet here. But the story is the same. If the home values go down, lending standard tightens, and/or interest rate increase, you will be looking at putting up extra cash for refi and/or an increase in payment. Certainly, if you bought your home earlier, the situation is different. But the only reason that it is different is because of the home valuation, not because of the rent collected can be much bigger.
If you are a real estate investor that holds multiple investment properties, the power of the leveraging will work both ways. You will need to multiply the amount of cash needed by the number of properties that you have. When housing market goes up, everything is great. When housing market goes flat or down, the leveraged players are the first one to go. Now instead of the cashflow generating machines, it will become a giant negative cashflow sucker. Until the point that you start to default on your very first loan, the refinancing game for the rest of your loans & properties will probably be over for you. The reason is that all the future refinancing terms will be dramatically worse for you after that.
I think the housing “correction” will have years to run. So any real estate investors in the bubble zone better start selling now, or hold onto any cash that you have. The most straightforward way to get out of a leveraged mess is to de-leverage (by selling).
Unfortunately, more likely there will be some appraisers and mortgage brokers going to jail along with real estate investors at the end. You can find tons of actual fraud reported here at the Mortgage Fraud blog. Yeah, people do go to jail for cheating on their loans.
I just received an investment package for shorting against these mortgages bonds from EuroPacific. Minimum investment is $100K, and minimum networth will probably be $1.5 million (I wish I qualify here). From their studies, here are some eye-popping numbers:
Percentage of option ARM and interest-only originated loans in California:
2002: 2%
2003: 18%
2004: 47%, 10.6% of people has 0% or negative equity in their home.
2005: 61%, 29% of people has 0% or negative equity in their home.
2006: ?
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September 22nd, 2006 at 10:04 am
“Unfortunately, more likely there will be some appraisers and mortgage brokers going to jail along with real estate investors at the end. You can find tons of actual fraud reported here at the Mortgage Fraud blog. Yeah, people do go to jail for cheating on their loans.”
That’s not what is tracked on this site.
September 22nd, 2006 at 3:53 pm
Can’t scare you, can I?
There are all kinds of frauds reported there. So I’m guessing that some of them got to be the loan cheaters.
September 22nd, 2006 at 4:33 pm
I guess I just don’t scare. Mine is a battle for truth, justice and the American way to real estate.
September 22nd, 2006 at 5:48 pm
Everything still stands. When someone signs the loan doc, they are subjected to perjury if it’s not true, and such things can let you end in the jail.
September 22nd, 2006 at 5:56 pm
Check this one out. Someone lied on the loan, got caught, and got jailed. Reported by Mortgage Fraud Blog.
http://www.mortgagefraudblog.com/index.php/weblog/permalink/fest_founder_sentenced/
September 22nd, 2006 at 5:57 pm
Yes, Frugal, but as the site shows, the cases were brought against, brokers, salepeople, and related parties who could steal money, identities, money launder, etc and therefore be prosecuted under the R.I.C.O statutes.
Since no one ever verifies applications against filed tax returns, there are no cases of “applicant lying” in order to get credit.
September 22nd, 2006 at 6:00 pm
The form given at closing to a borrower is Federal form 4506-T, “Request fo Transcript of Tax Return”.
In all my years (and I audited two commercial banks here for an FDIC audit)in banking/real estate/lending/investing, I have never seen the form used once.
September 22nd, 2006 at 6:02 pm
The reason: You don’t go after the source of repayment on a loan that in 90% of the cases are sold. Tink about it.
September 22nd, 2006 at 6:02 pm
Here is another one from Mortgage Fraud Blog related to lying on loan doc. (Note: URL broken down to 2 lines)
http://www.mortgagefraudblog.com/index.php/weblog/permalink/
three_missouri_men_plead_guilty_in_63m_mortgage_fraud/
And by law, perjury can be jailed.
The previous link has the following quote:
It should be pretty clear.
Not sure about your definition of truth? Does that include lying on the low doc or no doc loan? I think lying is probably not truth, right?
September 22nd, 2006 at 6:08 pm
Not sure about your definition of truth? – SORRY, I LIED! lol
September 22nd, 2006 at 6:09 pm
Frugal: The last link broke
September 22nd, 2006 at 6:11 pm
I don’t have the link, but I guarantee that the couple was prosecuted after somethin went wrong…..
September 23rd, 2006 at 1:09 am
There are two links.
First one is in comment #5 which is working.
Second one is in comment #9 which you need to cut & paste the 2 lines into your browser. My webpage displays the comment in a very weird fashion if there is any long word in any of the comments. So I decided to just enter the URL in two lines. It sucks, but better than making the comment sections to appear un-commentable.
I think you’re probably right about why they were prosecuted. No creditors would prosecute if the debtors have some chance of repaying.