Christina Dunham's Random Real Estate Musings

US Gov’t Steps in to Save Collapsing Financial System

The U.S. Government comes to the rescue again, this time passing H.R. 1424 which, among its many provisions, allows the government to purchase “toxic” mortgage debt from banks and other institutions. In a press conference last Friday, Bush said "This is a decisive step that will address underlying problems in our financial system. It will help take pressure off the balance sheets of banks and other financial institutions. It will allow them to resume lending and get our financial system moving again."

Treasury Secretary Henry Paulson said that mortgage-backed securities “have become difficult to trade and are choking off the flow of credit. The clogging of financial markets has the potential to have significant effects on our financial system and our economy." The announcement seems to have brought some stability to the financial markets, with the stock market strengthening at the expense of mortgage bonds.

Entitled the “Emergency Economic Stabilization Act of 2008,” the original $700 billion measure was initially voted down by the House of Representatives, but after the Senate included additional tax cuts and business benefits, the bill passed in a 263-171 vote. New estimates indicate that the new plan could bring the total cost of the legislation to $850 billion. The federal bailout comes at the heels of the recent takeover of Fannie Mae and Freddie Mac, as the government felt both these institutions would no longer be able to meet their mission to provide liquidity, stability and affordability in the housing markets.

Paulson, now nicknamed the new U.S. Financial Czar, will have the authority to buy and sell up to $850 billion of mortgage-related assets from any financial institution with significant operations in the US. The idea is for the government to purchase bad mortgages with the intent of re-selling them to investors when the market turns, predicted to be towards the latter part of 2011.

The last few weeks have been an extreme roller-coaster ride for financial markets, with several events taking center stage in the media. Investment bank, Lehman Brothers, filed for bankruptcy. Merrill Lynch announced it will allow itself to be purchased by Bank of America. The US government bailed out the massive insurance company, AIG. WaMu and Wachovia changed ownerships. And the Fed left short-term interest rates unchanged, keeping it at 2 percent. All news continuing to point to a slowing economy.

"We have acted on a case-by-case basis in recent weeks, addressing problems at Fannie Mae and Freddie Mac, working with market participants to prepare for the failure of Lehman Brothers, and lending to AIG so it can sell some of its assets in an orderly manner," Paulson said.

In his address, President Bush said, “America's financial system is intricate and complex. But behind all the technical terminology and statistics is a critical human factor -- confidence. Confidence in our financial system and in its institutions is essential to the smooth operation of our economy, and recently that confidence has been shaken. Investors should know that the United States government is taking action to restore confidence in America's financial markets so they can thrive again.”

Interested in reading the 451 page bill in its entirety? You can download it here: http://banking.senate.gov/public/_files/latestversionAYO08C32_xml.pdf.

The Federal Open Market Committee (FOMC) decided today to cut the federal funds rate by another half point, hitting it’s lowest levels since 2004 to 1 percent. This is the second time this month that the Fed has slashed rates.

A Press Release issued by the Fed stated:
The pace of economic activity appears to have slowed markedly, owing importantly to a decline in consumer expenditures. Business equipment spending and industrial production have weakened in recent months, and slowing economic activity in many foreign economies is damping the prospects for U.S. exports. Moreover, the intensification of financial market turmoil is likely to exert additional restraint on spending, partly by further reducing the ability of households and businesses to obtain credit.

In light of the declines in the prices of energy and other commodities and the weaker prospects for economic activity, the Committee expects inflation to moderate in coming quarters to levels consistent with price stability.

Recent policy actions, including today’s rate reduction, coordinated interest rate cuts by central banks, extraordinary liquidity measures, and official steps to strengthen financial systems, should help over time to improve credit conditions and promote a return to moderate economic growth. Nevertheless, downside risks to growth remain. The Committee will monitor economic and financial developments carefully and will act as needed to promote sustainable economic growth and price stability.

Winners from this move are consumers who hold adjustable home equity lines of credit (HELOCs) based on the Prime Rate, a rate pegged at 3 percent above the federal funds rate. Variable-rate credit cards, also tied to Prime, will be following suit – just in time for the holiday shopping frenzy. The rate cut is intended to stimulate business activity by lowering the cost of borrowing, as well as encourage consumer spending.

Between January 3, 2001 to June 25, 2003, the Fed cut the federal funds rate 13 times, and it hit a 45 year low of 1% between June 2003 to June 2004. From June 2004 and onward, it increased the federal funds rate 17 times in a row a quarter point at a time. After holding steady for several months in 2007, the Fed has slowly reduced the federal funds rate in response to slowing economic conditions.

Will this affect long term mortgage rates? Yes, indirectly. Although actions of the Federal Reserve can have a direct impact on the Prime rate, mortgage interest rates are dictated by the trading of mortgage-backed securities, which are similar to bonds and trade on a daily basis.

This means that the real dynamic at the heart of interest rate movement is the competitive relationship between stocks and bonds. Stocks, bonds, and mortgage-backed securities compete for the same limited investment dollars on a daily basis. When the Federal Reserve feels that interest rates need to be decreased in an effort to stimulate the economy, this reduction in rates can often cause a stock market rally. When the market becomes bullish, investors sell off of bonds and other investments, including mortgage-backed securities, and put the money in stocks.

Unfortunately, when mortgage-backed securities are sold off to fuel stock market rallies, this causes interest rates to go up, not down. This usually happens when the rate is cut is greater than what is expected. On January 24, 2008, the 30-fear fixed mortgage hit its lowest level since 2005.

A week later, in response to promising economic news and a 1.25 cut to the Fed Funds Rate, the 30-year inched up from 5.48% to 5.68%. As you can see from the graph, the 30-Year Fixed rate is slowly inching up after remaining stagnant for a short period this year.

The good news is that the cost of borrowing for businesses and consumers will go down, stimulating spending, and hopeully, the economy.

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GOOD NEWS! Good news! Christina Dunham is now a Mortgage Advisor with Bay Equity, a direct lender offering a variety of FHA loan programs. For more information about this program, click here.

Large and small companies across the globe rely on access to money markets to finance their daily operations, including inventories, and payrolls. Lenders routinely make loans to these companies, and to each other, to make it all happen. When lenders have confidence in these markets, and investors have confidence in this system, we have a functional marketplace that, for the most part, is sustained by competition.

When confidence in this system is shattered, however, like it has been recently, credit becomes expensive and scarce to all parties, and small and large companies alike can choke to death waiting for the short-term capital it needs to fund its long-term success. This directly affects you and your family. It means a slower economy. It means more lay-offs and less new job creation, which often means lower home values. It also fuels volatility in the financial markets that, as we've seen, can wreak havoc on your savings, retirement, and other investment accounts.

It is estimated that some $70 trillion in total global investment capital is available, which would be great news if our financial systems were functioning with confidence – and that's what the “Emergency Economic Stabilization Act of 2008” is basically about. Like it or not, the US Government has been given unprecedented power to invest $850 billion in our financial systems in two main ways.

First, as much as $250 billion has been allocated to purchase stock in US banks, providing the banks with badly needed money. Second, through the purchase of certain assets to help stimulate more liquidity in the credit market. Another initiative will provide government guarantees for the short-term loans banks make to each other to run their daily operations. More importantly, these actions are in concert with similar practices by other governments and central banks.

Below are a couple of the important highlights:

Changes in FDIC Limits:
As part of the Rescue Bill, Congress increased FDIC deposit insurance from $100,000 to $250,000 for all of an individual's accounts at a single institution. For one year, joint accounts, retirement accounts, and trust accounts are insured separately. This means a married couple can insure up to $1 million at a single bank, by making a few simple adjustments. Changes also affect revocable trusts, allowing the same amount of insurance for beneficiaries, such as your children.

That means a married couple with three kids could create enough qualifying individual and joint accounts to protect up to $1.5 million. It's important to note that the FDIC has never failed to pay a single dime of insured money when banks have failed, so you won't have to make a run on the bank or hide your money in your mattress anymore. Small businesses will also benefit from new increases, as well as the confidence that comes with this kind of insurance.

New and Extended Tax Incentives:
Within the 451 page Rescue Bill are nearly 100 tax code changes that directly affect individuals and business owners, including education deductions, sales tax, energy credits, and even new disaster aid. Other tax breaks, which were due to expire, were extended, including property tax deductions, the Mortgage Debt Forgiveness Act, and the shield for the Alternative Minimum Tax (AMT).

The property tax provision, set to expire in 2008, has been extended to 2009, and allows up to $500 ($1000 for joint filers) in deductions in addition to the standard property tax deduction – even if you don't itemize!

The Mortgage Debt Forgiveness Act, extended to 2012, was designed to protect those who already lost their homes due to foreclosures from facing an additional tax penalty for qualifying cancelled or "forgiven" debt of up to $2 million.

And, finally, the Rescue Bill also saves about 23 million Americans from the dreaded AMT, a kind of extra tax that some people have to pay on top of their regular income tax created by the Tax Reform Act of 1969.

None of these actions will solve our problems completely or save us from recession, but here's the good news. It is a positive step in the direction of stabilizing the markets. Our best, most practical financial advice is to create your own plan for the future with your financial professionals. Don't make any rash decisions without speaking to the experts you trust to handle your investments.

Until next week, happy home loan shopping!

To date, it is estimated that 2.22 percent of all homes in the U.S. have entered the foreclosure process. And according to the Mortgage Bankers Association, 40 percent of all subprime loans and 12 percent of prime loans in the U.S. are delinquent or in default.

Unfortunately, more than half (57%) of borrowers who are delinquent on their mortgage are unaware of their alternatives to avoid foreclosure, according to the latest research by Freddie Mac. The study, entitled “Foreclosure Avoidance Research II,” a follow-up to their 2005 benchmark study, reports that homeowner’s are generally in the dark about the options available to them when they are struggling with their mortgage.

According to the survey results:

• Lenders are unable to contact borrowers in more than half of the foreclosure proceedings
• Delinquent borrowers are four times as likely to pay key monthly bills late
• 47% of delinquent borrowers are first time homebuyers
• 20 percent of respondents believe that “it takes a while for anything to happen if a person is late on their mortgage payment”

On July 30, 2008, President Bush signed into law H.R. 3221, the “Housing and Economic Recovery Act of 2008,” a sweeping $300 billion rescue plan to help struggling homeowners avoid foreclosure, and to boost confidence in the sluggish housing market. Also known as the “Foreclosure Prevention Act of 2008,” the bill passed the House on July 23, 2008, by a vote of 272-152.

One of the provisions of this legislation is a new temporary FHA mortgage insurance program called the Hope for Homeowners (H4H) Program. The program took effect on October 1, 2003 and enables at-risk borrowers to refinance their existing mortgages into more affordable FHA-insured loans. The H4H program is effective through September 30, 2011.

While the program sounds promising on the surface, the qualifying guidelines may make it difficult for many borrowers to avail of the program. In addition, the premiums for the Upfront Mortgage Insurance and Annual Mortgage Insurance are twice that of a regular FHA loan, making it a very expensive loan to get into. Below are some of the requirements of the H4H program:

Borrower Eligibility:

• Borrowers must reside full-time in the property being refinanced, and may not have ownership interest in any other real estate, including second homes and/or rental properties. FHA will validate the borrower’s name and social security number against several databases to verify that they do not have ownership interest in other properties, as well as committed fraud in the last 10 years.
• Borrowers must certify that they have not intentionally defaulted on their mortgage or any other debt (i.e., if the borrower had available funds to pay the mortgage and other debt without hardship, but opted to forego payment, they do not qualify).
• Borrowers must had mad a minimum of six (6) full payments during the life of the loan, with full payment in accordance with the terms of the mortgage.
• Borrowers must certify that they did not knowingly or willfully provide false information to obtain the mortgage being refinanced under the H4H program. This means that if the original loan was obtained through a Stated Income program, and the borrower’s tax returns or bank statements do not support the income provided on the original loan application, they do not qualify for H4H.

Mortgage Eligibility:

• Any type of mortgage is eligible – conventional, prime, subprime, FHA/VA, fixed rate, ARM, interest-only, or negative amortization. The mortgage being refinanced must have been originated on or before January 1, 2008 (so new mortgages do not qualify).
• The current lender must agree to waive all prepayment penalties and late payment fees (including insufficient funds fees) on the mortgage; accept the proceeds of the new H4H mortgage as payment in full and; release their outstanding mortgage liens. If they don't, and the new loan does not cover the pay-off amount due, the borrower may have to cover the shortgage out of pocket.

Property Eligibility:

• As mentioned earlier, the property must be the borrower’s primary residence, the only residence in which they have ownership interest. If there are non-occupant co-borrowers, they must quit-claim their interest prior to the refinance.
• Only 1 unit properties are eligible, including single-family homes, condos, coops, and permanently-affixed manufactured homes.

Qualified borrowers may be able to refinance into a new FHA 30-year fixed mortgage at 90% of the property’s appraised value, with all existing subordinate liens extinguished. The Upfront Mortgage Insurance Premium (UFMIP) is 3.00 percent of the base loan amount, and the Annual Mortgage Insurance (MI) premium (collected monthly) is 1.50 percent of the base loan amount. For example, on a $300,000 loan, the UFMIP is $9,000 and the monthly MI is $375.

The maximum loan limit for this program is $550,440 nationwide. Borrowers are prohibited from taking out new second mortgages for the first five years on the program, except when necessary to ensure maintenance of property, such as when disrepair represents a health and safety hazard – cosmetic upgrades and routine maintenance do not qualify.

One of the most importance provisions of the H4H program is that homeowners are expected to share a portion of the initial equity as well as a percentage all future appreciation with FHA. In the event of a refinance or sale, HUD receives the following percentage of equity:

• During Year 1 - 100% of equity is paid to FHA
• During Year 2 - 90% of equity is paid to FHA
• During Year 3 - 80% of equity is paid to FHA
• During Year 4 - 70% of equity is paid to FHA
• During Year 5 - 60% of equity is paid to FHA
• After Year 5 - 50% of equity is paid to FHA

While the guidelines for the new Hope for Homeowners Program are quite stringent, the program does present a viable solution for those who qualify, especially when the new principal balance is greatly reduced. If you are interested in this program, make sure you have all of your documents in order, including two year’s worth of tax returns and most importantly, proof that the original mortgage was not obtained through fraud or misrepresentation of income and assets.

For more information about the Hope for Homeowners Program, drop me an email at contact@christinadunham.com.

Until next week, happy home loan shopping!

Christina Dunham is a Mortgage Advisor with Dunham Group Mortgage. To read more of her articles, visit www.dunhamgroupmortgage.com/blogs.