Mortgage advice in a changing market

by Michael Eastham, CPA CRMS

When the real estate market was hot, thousands of people became homeowners and investors virtually overnight. Many took advantage of very low adjustable rate mortgages; some went the route of acquiring mortgages that allowed them to make either interest-only payments (and in some cases, less-than-interest-only payments) in order to qualify for the loan. Some people expected to sell their houses quickly, while others planned to hold onto their homes for a while.

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Now that the market has returned to what I call normal market conditions, and interest rates on many of those loans have gone through the roof (pun intended); some of the aforementioned homeowners find themselves with monthly payments that are significantly higher than when they started. If you find yourself in this situation, it is imperative that you know what your options are, and implement a strategy to ensure your financial strength going forward.

For the people who are in the throes of rising payments, there are several things that you may consider:

• If the payment is still manageable for you and you would prefer not to incur the costs of rewriting the mortgage into a new loan, you may decide that staying the course is appropriate.

However, based on our research, and the state of the current economy and inflation, we do not expect to see any noticeable downward change in short-term interest rates or adjustable rate mortgages until the second half of 2007. For those of you with outstanding credit card debt and loans based on the prime rate, you may not experience any relief until late 2007 or early 2008.

• If your monthly payment is out of your comfort zone, one option is to look at a 30-year fixed rate mortgage. Interest rates on these loans are actually lower than many current adjustable rate mortgages. Another choice you may consider is rewriting that loan into a payment option mortgage. This loan gives you several payment alternatives each month, including a minimum payment option that will result in your loan balance increasing. Known as deferred interest or negative amortization, when applied appropriately, it can be a creative cash management strategy.
• Homeowners who started out with a payment option mortgage may also consider refinancing into a new payment option mortgage. By using this strategy, you will reset the minimum payment down to a much lower monthly figure. Payment option mortgages have a minimum payment that is not based on the actual interest rate. It is based on a “PAYMENT RATE”, and usually starts at 1% or 2%. So, if the borrower originally had this type of loan a couple of years ago and the minimum payment had risen (which they periodically do), they could “reset” the payment back to the 1% or 2% figure by refinancing. This could improve your cash flow and give you monthly payment options that include: minimum payment, interest only, 30-year or 15-year principal and interest. In most cases, you can change your payment option at any time.
• For those of you who are finding your payments unmanageable, an option is to sell the house. This is typically a last resort, but it must be considered if you no longer have the cash reserves or the cash flow to maintain the monthly payments. If you hang on to your home too long, you may be stuck in a foreclosure situation that will negatively affect your credit and your ability to finance real estate for many years to come. However, if you are putting your house on the market, it makes sense to evaluate rewriting the mortgage beforehand, perhaps taking some cash out so that you are in a better cash position should the house sit on the market for several months.

Before you pursue any of these strategies, it is critical that you have your current situation reviewed by a mortgage professional you can trust. By doing this, you can rest assured that you have the advise you need to make an informed and appropriate decision.