This whole subprime / mortgage industry meltdown hullaballoo is getting a little surreal, so forgive the Star Wars reference. This article in today’s New York Times reports that trading in shares of American Home Mortgage never opened yesterday, after the company announced following the market close on Friday that “it would suspend its dividend and was facing “significant margin calls” from its banks. “. I’ll bet that made for a fun-filled weekend for AHM execs . . .

This comes hot on the heels of last week’s announcement by the nation’s largest mortgage lender, Countrywide Financial, that it was seeing rising incidences of default on second mortgages to prime borrowers. Second mortgages to prime borrowers?!? Hey, isn’t that how we buy houses here in Silicon Valley if we didn’t get a job as a janitor at Google a few years ago? Uh oh . . .

So I rang up Andy Block at OPES Advisors, and asked him for some thoughts on all this, specifically how it is going to affect the purchasing power of my client Patrick. I mention Patrick because he is a “typical buyer” these days. He and his wife both have six-figure income jobs, and will net around $250K from the sale of their current home. They want to move from their current home in San Jose to Los Altos or Mountain View to get their kids into better schools, while getting a bit larger house. Andy had reviewed their income, credit, investment and retirement plans, debt, etc. etc. and came up with a range of $1.3M to $1.5M as a purchase price for their next house. They did the analysis about 3 months ago, because they are planners. Does this sound familiar?

It looks like the current changes in lending guidelines and interest rates are going to cost these folks about $100K or so in buying power, all other things being equal. Bummer.

I also chatted with Eric Trailer at Absolute Mortgage, and he agreed that we are seeing a period of adjustment, and that things should stabilize in 6 months or so once the regulatory reaction and new lending guidelines have had a chance to “work their way through the system”.

Both of these resources reminded me that mortgage interest rates are still 7% or less for borrowers with good credit, which are historically low, so don’t panic if you are in the market, and stay in touch with your lender if you have a pre-approval that is more than 30 days old.

Thanks for reading.

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You longtime readers (since March 29th) will remember my original Mortgage Mania article “Subprime Loans - Should Palo Altans Care?” that discussed some potential ripple effects of the subprime lending boom and bust, and the resulting changes in lending requirements for purchasers of million-dollar plus homes in Palo Alto and surrounding communities.

In that article I mentioned that tougher lending standards were on the horizon. Since major lenders do loans all across the country, they take a one-size-fits-all approach to guidelines, and in attempting to shelter themselves from risk associated with rising loan defaults in free-fall markets like Detroit (or Antioch, Gilroy, etc.), for example, they are making changes to lending guidelines that will make it harder for high-income folks with strong credit to buy homes here.

For some in-depth knowledge on this issue, the changing guidelines, and what you can do now if you are in the market for a home, I turn to Curt Van Emon of OPES Advisors, a wealth management firm with offices in Palo Alto, San Mateo and now Los Gatos. OPES is latin for wealth, and my go to source for analysis of what changing lending rules mean to my clients.

Curt is a fellow blogger, so you can read all of his analysis here at financeambition.com. I’ll just give you the summary here.

- As I mentioned back in March, guidelines are changing, and so buyers wanting to use interest-only loans for purchases will need to qualify based on their ability to make payments including principal AND interest.

- It will become harder to qualify for an adjustable rate mortgage than a fixed rate mortgage

- Buyers will qualify for lower loan amounts, meaning less buying power. (Goodbye 4-bedroom house, hello 3 bedroom)

When do the new guidelines take effect? July 22. So, read Curt’s recommendations, mark your calendar and contact your Realtor if you are planning on buying a home anytime soon.

If you aren’t currently working with a Realtor who is financially savvy and can explain what these changes mean to you, I know where to find some.

Stay tuned for updates on if and how these new guidelines affect buyers and the local real estate market in and around Palo Alto.

Thanks for reading . . .

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In today’s edition of The Wall Street Journal (which I read online if you are following my Are Newspapers Dead? series) there is an article entitled “More Trouble in Subprime Mortgages” by Vikas Bajaj discussing an industry report by the Mortgage Bankers Association tracking increasing numbers of foreclosures on subprime loans in California and other states. More newspaper articles predicting the “bursting of the bubble” are sure to follow.

More importantly for real estate in Palo Alto and the surrounding communities, the report also found that the delinquencies don’t seem to be extending to the bulk of the housing market where buyers have stronger credit ratings and are more able to cope with rising interest rates.

While interest rates continue to be historically low, with current rates below 7% for non-conforming (over $417,000) loans, they are still up by about .25% over the last couple of weeks, which results in an increased payment in the 4% range or roughly an extra $25,000 a month for a typical home in Palo Alto (note the use of sarcasm).

Please follow the link above to view the article in its entirety in its natural habitat, or click here.

Thanks for reading . . .

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If you have been following the Mortgage Mania saga on 3Oceans which looks at how fallout from the increasing numbers of homes bought with subprime loans are going into foreclosure, you might enjoy this tidbit from an article posted on Inman News on Tuesday. . .

Speaking via satellite to the International Money Managers Conference in Capetown, South Africa on Tuesday, Fed Chairman Ben Bernanke forecasts a slowdown on the nationwide housing industry as a result of tightening lending restrictions.

Excerpt from article:

“Tighter standards in subprime lending — along with bad publicity that may keep eligible borrowers from applying for loans — will continue to restrain demand for housing, Federal Reserve Chairman Ben Bernanke told international bankers Tuesday.”

Click here to read the complete article.

We are seeing it here as well. A couple of loan instruments that were available to an investor that I work with a couple of months ago are now gone. That hasn’t prevented him from being able to buy that million dollar fixer upper, but the increased carrying costs of his purchase are cutting into his profit, making “deals” harder to come by.

If you have been planning to purchase a home, and you are now finding that you qualify for less, or that you can’t qualify, post a comment and let me know.

Thanks for reading . . .

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Hi again,

I received another update on changing guidance in mortgage lending from Rachel Van Emon at Opes Advisors. While she consistently seems to be the bearer of bad news lately, she is actually a delightful person! So . . . don’t shoot the messenger.

A key point she brings out in her latest article is mortgage guidelines can change withour notice. This means that if you haven’t locked a mortgage and rate on a particular property, you can find that funding scenario disappearing in the wind.

A prominent national lender recently changed their guidelines to include the following:

·         To qualify for an Interest Only Jumbo loan (over $417,000), a fully amortized payment must be used.  This means borrowers must make more income to qualify for the same loan amount and program.
·         On loans where over 40% of the combined annual income of both borrowers is from verifiable sources (salary, W2, etc.), Stated Income will not be allowed.
·         For No-Income verifier loans, first time buyers are not allowed and payment shock is limited to 12% of current housing payment.
In an area where a number of first - time buyers are purchasing with 10% or less down payments, and many others are self employed, consultants, or contractors, these new guidelines can have a ripple effect on even the market in Silicon Valley where, unlike most of the country, we are enjoying rising property values and strong housing demand.

Unfortunately, most major lenders provide loans nationally, and so need to take a “one size fits all” approach.

Click here to link to the full article.

Thanks for reading.

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Last week I mentioned an article written by friend and colleague, Rachel Van Emon at OPES Advisors on the ripple effects of the sub-prime lending crisis and impending changes in lending guidelines.

Things move quickly in this market and industry, so I wanted to draw your attention to a recent article in the San Jose Mercury News saying that the impact will be minimal in the local market, except for some first - time buyers. The sky isn’t falling.

However, the article goes on to note that lenders have changed their guidelines, and that highly leveraged loans that are the bread and butter of first-time homebuyers are going away.

Quote: “He cited a recent young client with a credit score of just over 660 but a relatively short credit history, who is looking to buy her first condominium using 100 percent financing.

“With the guidelines changing, now some of the lenders who would have taken that three weeks ago … can’t do it today,” he said.”

Assuming this young buyer has good cash flow and a salary-based job, she should be a pretty good credit risk for a mortgage. That is how I bought my first home. Local prices are sky-high already, and this could be another barrier to entry for many.

It’s not only first-time buyers who are short on savings and didn’t pick their parents well who are affected. Bay Area buyers are financially sophisticated, and have used interest-only and other non-traditional loans to allow them to divert cash that would be spent on traditional mortgages into higher return investments. Reducing their ability to do that could dampen some of the enthusiam that is contributing to the currently hot market.

Thank for reading, and I welcome your comments.

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If you are a reader of The San Jose Mercury News, or any other paper or media outlet, you know that there is a growing issue associated with home buyers who purchased their homes using subprime loans and are now facing foreclosure as they are unable to keep up with their payments when their rates adjust.

On Sunday, March 17, the San Jose Mercury News ran an article describing how an agent and lender with Century 21 Su Casa Realty violated a number of lending laws and ethical guidelines to get people to purchase homes which are now in foreclosure, in some case because the buyers couldn’t even afford the first payment.

While it is a stain on the already tarnished image of Realtors, it is easy for us in Palo Alto to say ‘what a shame, it won’t happen here’, or words to that effect. But, what is the effect of this issue on homebuyers in Palo Alto and the surrounding communities?

Rachel Van Emon with OPES Advisors, a financial services firm with offices in Palo Alto and San Mateo, recently sent me an article that discusses the effects of impending legislation and revised lending guidelines that will affect the ability of buyers to qualify for products like the interest only loans that so many of us use to buy our million dollar teardowns in Palo Alto and surrounding communities.

The highlights are:

• The Department of the Treasury has issued a Guidance on Guidance on “Nontraditional Mortgage Product Risks.”
• The Guidance specifies “nontraditional” as those loans allowing the deferment of principal and/or interest payments – not just sub-prime loans.
• The Guidance states that borrowers for these products are to be qualified at the “fully amortizing and fully indexed payments.” This means that qualifying payments will be bigger, and it will take more income to qualify.
• The new guidelines are to be in effect by 9/07. Some lenders have already adopted them, and many more will do so in the coming months.
• Virtually all lenders have cancelled their programs allowing 100% financing on a Stated Income basis.
• Guidelines have tightened around lending when other “risk factors” are present such as 100% financing, low reserves, high debt-to-income ratios and condo properties.

In short, it’s going to be harder to pay for that million dollar teardown in Palo Alto starting now, and especially in September.

The big question is whether these changes in lending laws will cool the red hot housing market we are currently enjoying, or if the Valley’s amazing ability to generate disposable incomes and wealth will overcome another hurdle to home ownership. Stay tuned . . .

The entire article is posted for your reading pleasure. Click here to view it.

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Well, nowadays, and at least in the Bay Area, that is no longer the question. Bay Area buyers have become accustomed to hearing agents, and their friends, emphasize the importance of being “preapproved”. But like many overused and underexplained topic, few people actually fully understand the power of a properly executed preapproval, and how to distinguish it from its more commonplace cousin, a prequalification.

If you are in the market for to buy a home, especially in some of the more competitive neighborhoods of the Bay Area (such as Palo Alto, Menlo Park, Los Altos, Mountain View and San Carlos), your agent – if he or she is any good – will ask you to meet with a qualified mortgage advisor as soon as possible to get prequalified or preapproved. This will serve two main purposes: 1) the agent will be able to serve you best by understanding the range of your affordability and not waste anyone’s time, and 2) you will be able to focus your search on what you know you can comfortably afford and not fall in love with something that was not meant to be. The purpose of the initial meeting with the mortgage specialist is to get “prequalified”; however, you can also get preapproved at the same time. So what’s the difference, and who cares?

Prequalified means that the mortgage specialist has taken a detailed discovery interview of your financial and credit background, along with your housing goals. Based on the information collected, s/he should be able to make a professional decision (based on his/her years of experience and the guidelines published by the lenders) whether or not you are “qualified” to get a loan and approximately how much you can qualify for. Let me stress that this is a decision that the mortgage specialist will make, NOT the person/organization who will ultimately lend you the money. Needless to say, the prequalification has the following weaknesses:

- There is no assurance whether you will actually get a loan or not

Preapproval, when done properly, is much more powerful. It is a prequalification taken to the next step. Preapprovals can take 2 forms:

CONFORMING LOANS ($417K and under)
For conforming loan amounts, the mortgage specialist can actually upload your file information into one of two national approval engines (Fannie Mae or Freddie Mac sponsored), and within minutes, obtain a printed formal approval of your loan amount and any pertaining conditions. This approval, because it is governed by a set of approval criteria that is universally accepted by all lenders, can then be submitted along with the hardcopy of your loan file to your lender of choice. That lender’s underwriting department will in turn accept and adopt the findings generated by this online engine. Hence, once you received an from this online engine, you can be fully confident that your loan is essentially approved. The reason that mortgage specialist don’t automatically do this is because (sadly) most people in the industry are not properly trained financial advisors and simply don’t know how to use this application, or are not even aware of it! Those who are aware are often deterred by the extra work and/or upfront cost, and so simply downgrade their clients’ to a “prequalification,” assuming that they won’t know the difference anyways.

NON-CONFIRMING (AKA JUMBO) LOANS (Over $417K)

For Jumbo (non-confirming) loans, preapprovals are a bit more complicated, and controversial. Since the national (Fannie Mae or Freddie Mac) engines that are uniformly accepted by all the lenders approve up to $417K – the conforming loan amount limit – many loan agents simply treat jumbo loan preapprovals like prequalifications. That is to say, they use their judgement to see whether a loan would be approved. In most cases, and especially if the agent is seasoned and dependable, the preapproval will not be at risk. But, if time permits and the agent has access to underwriters, it is always safer to discuss the actual loan package with a specific underwriter and obtain a verbal approval. In this case, the loan is not only in good shape according to the agent, but actually considered “approved” according to the person who would ultimately be granting the funds. This “preapproval” is very important – basically, as long as the borrowers can subsequently provide the required documentation (according to loan type) to support what was disclosed to the underwriter, than the written approval would be provided almost immediately upon submission.

Preapprovals, when executed properly, provide buyers with peace of mind when they need to go in with an aggressive offer, such as bypassing finance contingencies. If a loan is preapproved, either through the automated engine or verbally with an underwriter, buyers can be assured that their financing is confirmed within the payment terms of their comfort level, subject to slight market movements prior to locking a loan. However, if a preapproval was not done properly, and the buyers waived finance contingencies, they could be in a sticky situation. I have inherited many clients who have learned this lesson the hard way, having had to back out of a beloved house they won through multiple offers due to a prequalification error, and risking their deposit in the process.
Lastly, while it’s a hard sell, what people don’t realize is that a strong preapproval from a reputable mortgage specialist should placed the buyers in a more desirable position than even a 100% cash buyer. The sellers have no control over what a cash buyer will do with their money between offer acceptance and close of escrow. While not probable, it is possible that the purchase money could go down the drain through a big Vegas visit, or disappear through a bad stock day. Conversely, if the bulk of purchase money is coming from a reputable lender, and the lender has already preapproved, then sellers can have the comfort of knowing that the money is not going anywhere and not accessible to the buyers for any purpose except to buy the house. As a seller, I would much rather to see a strong preapproval than an all cash buyer.

SUMMARY:

- Make sure you know whether you are getting a prequalification or a preapproval (hint, latter is better!) If the person you’re speaking to can’t explain the difference to you – SWITCH!

- If you are getting a preapproval, ask which lenders you have been preapproved with (and why those were chosen)

- Before you waive finance contingencies, make sure that the person doing your preapproval has verified your credit, your cash reserves, and your household income

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