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Sep 7 2010 12:00AM

Question


We are three and a half years into a five-year adjustable rate mortgage (ARM). Our rate is almost seven percent. We are $40,000-$60,000 upside down in our home and our mortgage is more than half of my husband’s take-home income. We were told we would have to come up with $30,000-$60,000 to refinance and we were denied for a loan modification directly from the bank and through the making home affordable program. With rates as low as they are, we would like to take advantage and secure a fixed rate loan. Even better would be to lower our monthly payment since we’re expecting our first child in the spring. I feel like the only way to get help now would be to skip a payment or two. The bank won’t even look at our paperwork unless we’ve defaulted in some way. Is it worth the risk and how bad of an impact will it be to our credit? Right now both our scores are in the mid 700s.

Answer


“Unfortunately, unless you demonstrate that you are ‘in trouble’ by missing payments, the mortgage modification programs, as they currently exist, aren’t much help,” said FPA member Kim Miller, CFP®, a financial advisor with Sweetwater Investments. “The banks take the position that if you are able to make the payment — no matter how bad the deal is for you — that you don’t need any help.”

What’s more, Miller said defaulting on your mortgage (foreclosure) will shave about 150 points off your credit score. A short sale isn’t much better, at about 120 points. Either path will also restricts your ability to obtain a new mortgage for five to seven years.

“You have probably seen news stories about people doing ‘strategic defaults’ which usually involves not making any mortgage payments and simply waiting for the bank to evict them,” Miller said. “This approach takes some chutzpah and a certain sense of there not being any better options. I don’t know if you are at this point or not. Others simply move out and mail the keys to the bank, so called ‘jingle mail.’”

“Both of these paths almost certainly lead to foreclosure,” said Miller. “As you’ve probably determined, even if you have the money, throwing $30,000-60,000 into the house just to get a lower interest rate is a losing proposition.”

That said, here are some questions that Miller posed that could help a financial planner give you relevant advice:

  1. Do you have any equity at risk in the house — i.e., down payment money? I realize that any down payment you may have made is already sunk, but if the amount wasn’t much, that makes a disposition less costly to you.
  2. How much was your federal income tax refund this year?
  3. What is your husband’s income tax withholding status (W-4) at work?
  4. Could you sell the house for what you owe on it — or close to it?
  5. Could you lease the house out to a renter for an amount that would cover — or come close to covering — the monthly expense?
  6. What do you think is the most important issue to you regarding the house? Is your credit rating more important to you than being able to cover your living expenses? Are you emotionally attached to the house, the neighborhood, etc?
  7. Have you thought about getting rid of the house — in whatever manner that is possible — and renting?
  8. How much lower would your payment have to be for it to be affordable? Guidelines used by banks say your payment should not be more than 30 percent of your monthly gross income.
  9. What does your mortgage note say about the ARM? In other words, how will the rate be determined once your five-year fixed rate is over? Given where rates are now, your new rate — although it won’t be for about 18 months — could be substantially lower than seven percent.

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