No Money Down! A Lifetime to Pay!

Welcome, friend, to the booming field of "subprime" mortgages. Think you can't afford a house? You're probably right, but that won't stop us from putting you in one!

As housing prices rose, subprime lenders proved inventive at finding new ways to qualify buyers for ever-larger loans. There's the brand-new (to Minnesota) 40-year mortgage. There's the stated-income loan, once reserved for wealthy customers whose businesses provided high but unsteady income. With this loan, the buyer simply declares an income and submits no documentation. There's the interest-only loan, in which the customer pays no principal for a specified period, usually three or five years, and gets hit with a balloon payment at the end. (The balloon payment is particularly popular with lenders because it's often difficult for the buyer to figure out how much they are paying in fees.)

And, possibly the riskiest of all, there's the so-called option-ARM, or negative amortization loan, in which the buyer pays only a portion of the interest while the balance is quietly tacked onto the principal. Lenders often tell borrowers willing to contemplate this last financing package that the value of their house will most likely outstrip their mounting debt levels. Even if that turns out to be true, it doesn't begin to address the sticker shock that will set in when the mortgage payment goes up--as much as 30 percent on a two-point hike in the rate--in a couple of years. (For examples, see sidebar on page 22.)

As Ameriquest and its competitors have grown more profitable, and years of low interest rates have dried up the market for mortgage refinances, "prime" lenders have begun offering many of the same risky mortgages. In July the St. Paul Pioneer Press reported that 36 percent of all nonconforming mortgage loans (those not meeting guidelines of federal mortgage agencies) made in the Twin Cities this year were interest-only. In 2003, they made up just 8 percent locally. Nationally, the number of such loans doubled during the same time to 27 percent.

Big surprise: There's a distinct correlation between high-risk loans and eventual foreclosures. A study done last year by Macalester College geography professor Laura Smith and her students found a disproportionate number of subprime loans among foreclosures in Ramsey County in 2002. Three-fourths of the foreclosed loans were made by unregulated lenders: 99 by Ameriquest, 35 by its parent company, Town & Country Credit, and 48 by New Century. One third of the 353 foreclosures were of adjustable-rate loans.

"Almost 63 percent of the foreclosed mortgages had originated three or fewer years before the foreclosure," the study notes. "This means that most of these mortgages were foreclosed upon very quickly. Sometimes a fast foreclosure may indicate that the borrower was not prepared to make their payments from the beginning, indicating possible abusive lending practices."

In Hennepin County, according to sheriff's office statistics, the number of foreclosures has risen steadily over the last four years from 473 to 766. It's not just here: The foreclosure rate rose last spring in 47 states, even as the percentage of mortgages that were interest-only or adjustable-rate soared to 63. Eight percent of American homeowners now pay at least half their income on their mortgage.

A recent study showed that 40 percent of people seeking foreclosure prevention assistance in Philadelphia cited medical costs as the source of their problems. In 2000, that city's sheriff auctioned 300 to 400 foreclosed properties a month, according to the Washington Post. This year, the number is more than 1,000.

"Why are bankers making such risky loans?" asks Doug Henwood in the most recent issue of his Left Business Observer newsletter. "One reason is that they're a little desperate; profitability is down sharply in the industry, and there's tremendous overcapacity. Another reason is that banks themselves rarely hold onto the loans; they're packaged into bonds and sold in large chunks to institutional investors. And the investors may assume that Alan Greenspan will save them should things go sour. Why not? He's done it many times in the past.

"When risk can be passed along like that, there's an incentive to overlook it," Henwood continues. "It used to be said of Soviet-style economies that they were systems of 'generalized irresponsibility.' We've got the capitalist version going in the USA."

 

The Marolts bought the little white house at 26275 Seventh St. W. in 1991 for $51,000, shortly after they were married. Built in 1981, it had three bedrooms and a good-sized yard. John and Rosalie were high school sweethearts reunited after decades of separate lives. Both had nearly grown kids. The house was a great place to get them all together for barbecues and Thanksgiving dinners. One of their sons built a fire pit out back, carefully rounding up stones from places that were special to the family or that had a story associated with them.

John Marolt bought the house with a VA loan with great terms but an interest rate of 8.5 percent. When rates came down a few years later, they refinanced. Their original payments were only $650; they figured they could afford a little more. So while they were at it, they took out a few thousand extra to buy new carpeting and appliances and to pay off some credit cards.

They don't have the paperwork from that loan, but the documents from the next one tell a story of things starting to go wrong. In 2000, they took out a home equity loan to catch up on $11,000 in bills and overdue property taxes. To get the loan, however, the Marolts had to pay $5,000 in fees, all of which the lender conveniently rolled into the loan. A year later, when they got a call from a telemarketer who swore they could lower their monthly bills by refinancing one more time, they bit.

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