There has been a lot of talk in the news lately about sub-prime mortgages and how they are affecting the housing market as well as some of the other economic sectors. Many consumers may be wondering just what are sub-prime mortgages. It is a fair question to ask, but a somewhat difficult one to answer.
One reason it is difficult to define sub-prime mortgages is because they can vary, and they can vary a great deal, in fact. Most of the sub-prime loans that were issued in the past had at least some of the factors that are detailed in this article, but the combination of factors were generally mixed. This one of the reasons why the sub-prime market grew so quickly; these loans could be all but custom-made to fit the individuals taking them out. In some cases that was fine, but in many other cases those exotic mixes of factors were a recipe for disaster.
Some of the factors that went into creating sub-prime mortgages include:
No down payment. Many buyers were thrilled with the prospects of moving into a new home with no down payment required. What some of these buyers did not fully appreciate was that they were now financing the entire amount of the home rather than what would have been the balance had a down payment been applied to the loan.
Low teaser rates. Many of the adjustable rate mortgages that ultimately ran into trouble (and will continue to run into trouble) had very low introductory rates. A large number of these loans had two year teaser rates that when laid out in dollars and cents made buyers believe that they could afford the home. What was not often considered was the monthly payment after those teaser rates expired and much higher rates went into effect. Some buyers went into contracts with a teaser rate of two percent but will find the rate shooting up to ten or eleven percent when it resets. For the majority of sub-prime mortgage holders the newer, higher rates are the main cause of concern and the main reason they will face foreclosure if they do not arrange for other loan terms.
Credit worthiness was also a major problem. Most families want to own their own home, but the truth is some people simply cannot afford the costs associated with homeownership. During the sub-prime heyday many buyers were moved into loans that creditors and realtors knew the buyer could not afford. Whether this was done out of compassion for the low-wage earner or out of corporate greed is another story for another time. The end result, however, is homeowners are losing homes because they simply do not have the wage levels needed to keep the home and to pay for the added costs of having a home.
There were many other factors that often played a role in the sub-prime mess including inflated home appraisals, false or misleading information on the credit applications that were turned into lenders, aggressive marketing that made promises to buyers that could not be kept, and many other issues, some of which are only now beginning to come to light.
The bright side to all of this is that perhaps some legislation will come about to help avoid these problems in the future.
So what motivates mortgage loan officers toward sub-prime lenders? Money of course! Typical capital formula: the greater the risk the greater the return.
Mortgage lenders weigh risk, return, and value. They risk loaning money that may or may not get repaid. They risk loaning money at a rate that falls well below fluctuating interest rates over 30 years. They risk loaning money on real estate properties that lose value.
High risk loans recommend high rewards. Commissions are issued and the home buyer or refinance candidate gets or keeps their home.
Suspicious lending practices put the buyer at risk. The loan document may bury the facts. "Just sign here. You can move into your new house next Monday." No reason to heed "truth-in-lending"; get the sale, "seal the deal" because the borrower pays no matter what.
Predatory lending practices bring further harm to families hoping to fulfill their dream of home ownership. Families with poor credit histories suffer further economic and social stigma. Maybe they should know better, but who will tell them?
According to "Inside Mortgage Finance", sub-prime mortgage originations have increased 10 fold since 1997. During 2006 & 2007, 25% of all mortgage originations were sub-prime.
Subprime usually means that a loan is approved for borrowers with "tarnished credit profiles".
As you know from "Have you checked your credit score" advertisements, FICO (credit scoring system developed by Fair Isaac & Co.)scores guide loan officers when assessing a borrowers creditworthiness. Like the Scholastic Aptitude Test, the higher the score, the better (850 tops; 300 not so good). Subprime loans are approved for borrowers with FICO scores at or below 600.
Families lacking financial resources wanting a home are easily enticed by the sub prime lender. It all starts with a phone call by savvy telemarketers promising loan approvals on a $400,000 house in East Flatbush (Brooklyn, NY) to a bus driver. A non-profit organization study indicates that just about 50% of the loans in East Flatbush are sub-prime.
Karl Dorismund said, "From the beginning they (the lender) tell me the mortgage will be $2,000 or 2,100 a month. Can you believe how much it is? $2,900!"
Mr. Dorismund signed a high-interest mortgage with no-money down. In my town, 10% to 20% is necessary before a loan is approved.
Cathy Mickens, an advisor to first time home buyers says, "On any one block, we might see...three or four for sale signs....we didn't see this last year at this time."
A study by a New York non-profit reveals that the loan patterns for poor and minority neighborhoods. has the highest concentration of sub-prime loans with the highest level of defaults. Borrowers bailout.
Sub prime lenders don't like moral solutions. It is immoral to entice borrowers with light burdens at first only to break their backs later. It's all in the small print, and the details seldom are mentioned to the sub prime borrower.
Subprime lenders made $587 billion in new mortgages in 2004, up from $390 billion in 2003, according to National Mortgage News.
Mortgage marketing by sub prime lenders reminds capital markets that the less-educated city dweller gets trapped by socio-ecocnomic limitations. Less fortunate people need helping hands. This does not mean setting them up for failure; this means creating opportunity.
Habitat For Humanity affiliates provide volunteer labor, money and building materials to construct "decent houses" for the sub prime borrower. Homeowner's make a small downpayment, and must pay a reasonable mortgage. "Habitat houses are sold to partner families at no profit and financed with affordable loans."
Every Habitat For Humanity home-owner is a sub-prime borrower. In fact, many would not qualify for loans from a bank or mortgage company.
* Habitat for Humanity works to eliminate substandard housing * Habitat works to provide homes for families living in sub-standard apartments. * Habitat has provided homes for more than 1 million people in 3,000 communities
Habitat for Humanity (and organizations like it) offers a key to one family at a time. Your donation to Habitat for Humanity gives hope to qualified and committed sub prime borrowers.
Both Peter Kenny & A Raymond Randall are contributors for EditorialToday. The above articles have been edited for relevancy and timeliness. All write-ups, reviews, tips and guides published by EditorialToday.com and its partners or affiliates are for informational purposes only. They should not be used for any legal or any other type of advice. We do not endorse any author, contributor, writer or article posted by our team.
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