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Interest rates are at their all time lows, and it’s unfortunate that people can’t take advantage of that. Why? The whole subprime mess caused by banks have drastically reduced home values. Reduced home values have raised the loan-to-value ratio way over 105%. Who gets punished? The good homeowners who are looking to refinance.

Let me back up. Here’s my understanding of this whole subprime mess and correct me if I am wrong. The whole subprime mess was started by banks. They lent out loans to people who couldn’t afford them by enticing them with low interest rates on ARMs (adjustable rate mortgages) with no money down.  Once interest rates started resetting and skyrocketing, all these people unsurprisingly couldn’t afford their mortgages and foreclosed their homes. When these foreclosures happened, buyers came in and got these foreclosed houses at dirt-cheap prices. These dirt-cheap prices caused home values of surrounding neighborhoods to also plummet, making it difficult to refinance.

There are a few criteria to refinance. You will need good credit, show that you have sustainable income and have a loan-to-value ratio that’s less than 105%. This last criterion is very frustrating. Because of the whole subprime mess caused by banks (I can’t emphasize enough that the whole subprime mess was caused by banks), most likely the loan-to-value ratio on a home exceeds 105%, especially if you purchased the home within the last 5 years.

The loan-to-value ratio is simply the value of your loan compared to the value of your house. You can’t take out a loan that is over 105% of your home value. So lets say, you want to refinance a loan of 300K. In today’s market, the value of a house is 200K. That means, you can’t take out a loan that is over 210K. Well, that doesn’t help because the loan needed is 300K.

I totally understand the need for the loan-to-value ratio to be below 105%. It is to minimize the loss in equity for the bank (yes, it’s always about the banks)  if a house potentially forecloses. However, this criterion doesn’t make sense in this market. When a good homeowner is denied to refinance in today’s low interest rates, they will look around and realize that they can dump their homes, get a newer home for a great price and best of all, lock in today’s low rates. This, in turn, increases the number of foreclosures and we are back to square one.

If I were President Obama or a bank executive, here’s what I would do. Take out the loan to value ratio criterion and give good homeowners a chance to lock in today’s low rates. This would deter them from just abandoning them homes, and keep home values of surrounding areas intact. The number of foreclosures would decrease and we can start making progress out of this mess.

It is kind of funny how the banks started the mess, and how it is also
the banks who are making it worst.

Next post: Loan modifications with Bank of America. Oh joy.

This entry was posted on Wednesday, February 10th, 2010 at 9:04 pm and is filed under Thoughts. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.