Sub-Prime Mortgage Companies in Major Trouble

Things are cooling off fast in the Sub-Prime mortgage business. Several companies who were in the vanguard of lending to homebuyers with iffy credit ratings are closing their doors. Others are desperately looking for buyers who will take the firms off their hands.

Default rates on these loans has jumped dramatically, and realistic people are expecting more defaults as low-interest and interest-only Adjustable Rate Mortgages (ARMs) reset to their permanent higher interest rate. Those reset dates are just starting to fall due, and can raise payments by hundreds of dollars a month.

Of course, this is leading borrowers to scramble for refinancing, as their reset dates approach. Sadly, fewer and fewer loan outfits are ready to refinance a loan for someone with a questionable credit history, so it's getting harder and harder for the homeowner, soon to be beset with a house payment he or she can't afford.

This problem is affecting even huge banks and other corporations, which buy these loans from the loan brokers and other finance companies. It's getting scary out there for the deep pocket folks, who have been planning on nice profits when the higher rates kick in on these loans.

The problem is made worse by the flat or falling housing market in many areas, including the Twin Cities. In some cases, homebuyers have purchased homes with 0% down payment, creatively financing the entire purchase price of their home with one of these ARMs. They figured that they'd just refinance before the resetting of the interest rate. Trouble is, they now owe more on their existing mortgage than the home is currently worth. They're upside down on their loan.

Typically, such borrowers don't have much cash on hand to make up the difference between what they owe on the home and what lenders are willing to loan them. Worse, the fancy-schmancy mortgages with the adjustable rates and the 100% financing are just about drying up out there. You can still get one, maybe, if you're not too much upside down and your FICA credit score is over 700, but it'll take some hunting. If your credit score is around 650, you can just forget about it right now. Nobody's going to want to talk to you, especially if you have no equity in your home or are upside down on your mortgage. If your credit score is over 750 or so, you'll have no problem, but you're probably not in this situation anyhow.

Lots of folks are going to do what lots of folks have already done...walk away from the home and let the foreclosure happen. That's already starting, with foreclosure rates jumping like Mexican jumping beans. They'll go back to renting again, and the home will be on the market, joining the glut of homes already out there. That will drive prices for existing homes lower, making the problem even worse. The rental market will do well, and rents will rise, due to the increased demand, making life even tougher for folks living on the margin.

Worse, homebuilders are going to be hit hard, since a glut in the home marketplace makes it tough to sell all those new homes they want to build. Many builders have already cut back on their future plans for developments, and have had to offer deep discounts to get buyers into the homes they've already built.

What to do? Well, if you own a home with a traditional mortgage and you've built up equity, don't worry about it. Just keep making the payments. If you have a home with little or no equity, an ARM that will reset soon, then worry a lot. Start making phone calls to see if you can line up a refinance now, even if your ARM doesn't reset for quite a while. If you're upside down on your loan, meaning that you owe more than your house is currently worth, worry even more. Try to find a way to raise as much cash as possible, with the goal being to wipe out the difference between the home's value and the amount you owe on it. If you can do that, you'll be more appealing in a refinance.

If you're in a bad spot and have a poor credit score, then your worrying is more than justified. Given the current nervous state of lenders, you'll have a very difficult time getting a new loan, particularly if you have no equity or negative equity. You need to talk to a credit counselor who is not a loan broker and see if there's a solution for you. It could be a tough spot.

You'd be amazed at which major banks and corporations are tied up in this potentially disastrous situation. Wells Fargo, CitiGroup, Wachovia...all have their fingers deep in the subprime mortgage pie. Even General Motors, which just spun off its GMAC division, which had tons of money in the subprime mortgage business, may have to take a hit of almost $1 Billion in writeoffs. That's not good, given its current weak position in the automotive marketplace.