It’s The Monthly Payment Stupid, Part II

A Case Study of a Trapped Homeowner

Several weeks ago I went to my 25th high school reunion at my alma mater, Georgetown Prep, in Bethesda, Maryland. A classmate of mine, who is a reader of The Sumichrast Report, asked me for advice. His brother-in-law, Jeff, is upside down on his house and wanted to know what options he would have.  I spoke to Jeff the other day and here are some of the facts:

  1. Jeff and his wife bought an end-unit townhome for $200,000 in May 2006. They received 100% financing.
  2. At the time of the purchase, they had a gross combined income of about $8 0,000. (At a 100% financing, this is well inside the 3x normal borrowing limits that historically would qualify.)
  3. Their first mortgage was at a fixed rate of 6.875% in an interest only 5-year ARM. Their second (a HELOC) was at a considerably higher rate, but has recently been reduced by the bank to match the first. The lender was Countrywide, but is now Bank of America. They are current on their mortgage payments.
  4. They recently had their first child. Jeff’s wife is on maternity leave, but her disability payments are about to run out. She plans on getting another job, but it will be part time, so their income is tighter. They are worried about not being able to afford the house.
  5. Jeff had hoped that the house would appreciate in value and his fall back would be that he could resell it. But re-sale prices in their neighborhood are down 20%. Jeff believes his house is now only worth $160,000.

Jeff told me he feels “trapped.” He wants to stay with the home for now, but is worried about going delinquent on the payments. He tried to speak with the bank about lowering his rate, but they declined to discuss it because he is current on his payments. “Should I stop paying,” or “should I just walk away from the house,” Jeff asked me? Jeff in front of his home.

I agreed to reach out to some professionals in the industry that I know who could provide some insight on the best strategy for Jeff. Based on this advice, I also suggested to Jeff that I would be on the call with him when he called his lender to explore his options. 

Some months ago, I posted a blog entry, “It’s the Monthly Payment, Stupid”.  In it, I stated that most homeowners don’t want to lose their home. In fact, like Jeff, while they are disappointed that their home is down in value, it’s the roof over their head. They still have good credit and don’t want to walk away just because they “bought at the high of the market”, and in the short run, may have made a bad deal. Lenders should listen up. Had Jeff been required to put 20% down, even with his drop in house value, he would be close to being able to refinance at a conforming FHA loan, which is running at around 4%. This would reduce his monthly payment from about $1,385 to $875. This would mean all the difference in the world to Jeff. It would allow him to afford the home with his wife working part-time and probably take some of the sting out of a short-tem loss in home value. But Jeff, with a no money down purchase and a drop in value, can’t refinance. And the bank won’t talk to him until he goes into default.

So Jeff is now considering just walking away.  This is the real danger. Banks need to work with homeowners like Jeff to reduce their monthly payment first, before it’s too late. It the end, it will be much cheaper for them than foreclosing on the home.

In the coming weeks, I will be posting updates on this story. Perhaps we can devise a strategy for Jeff that can work for others. Do you have ideas for Jeff or a way to help? Or, do you have a similar story? I challenge and encourage you to email me at marty [at] sumichrastreport.com.

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