Underwater Mortgage Options

Q: My wife and I live in a loft condo complex that we purchased in 2006 for $270,000 with a zero down 5/1 adjustable rate mortgage (ARM) at 6.25 percent that is set to expire next month. There have been several foreclosures in the building and the units are only appraising for $180,000 to $200,000.

What are my options if I have $214,259 left on the first mortgage and $32,775 left on the second mortgage? We both work two jobs and have a household income of around $90,000. Thank you in advance!

A: I’ve received hundreds of letters like yours and unfortunately it looks as though you have very few – if any – options.

You are seriously underwater with this loft condo. The property might be worth as little as $180,000 and you owe $246,000. You don’t qualify for any government programs that I know of (you have a 100 percent 5/1 ARM). I also don’t know if you have a Fannie Mae, Freddie Mac or FHA loan. If so, there might be programs to help you.

The good news is that your loan isn’t really expiring and if you’re happy in your home and can afford the payments, you can continue to live there and enjoy it.

If you truly have a 5/1 adjustable rate mortgage, then the fixed part of the loan will convert to a 1-year adjustable mortgage. The even better news is that interest rates are extremely low and it’s quite likely that your interest rate will drop substantially from where it is right now. You might even pay as little as 4 percent when the loan converts.

You should look at your loan documents and figure out what index your loan is tied to. Then, contact your lender to make sure you understand what will happen with the conversion.

There are two main indexes that most home loans have been tied to: the one-year United States Treasury Rate and the one-year London Interbank Offered Rate (LIBOR).

If your home loan is tied to the U.S. Treasury Rate, the lender will take this index and add to it the “margin” to obtain your rate. If your margin is 3 percent and the one year Treasury rate is about .50 percent, your new interest rate should be around 3.5 percent, or perhaps lower.

If your home loan is tied to the one year LIBOR rate plus the margin of three percent, your new rate would be around 3.75 percent.

If you look at your documents to see what your index rate is, you can go online and determine what the current index is at, then add your margin to approximate your new interest rate.

Also, you should receive a letter from your lender telling you what your new interest rate will be and that letter should have come to you by now or will come to you any day now.

Here’s what should happen: Your remaining loan balance should be re-amortized over the remaining 25 years of the loan at the new interest rate. Even if your monthly payment goes down substantially, you might want to consider taking the money you will save on your main mortgage and use those funds to pay down your second mortgage.

While you will still be underwater, you will be a lot closer to the true value of the property. With some hard work, and some luck on interest rates, you ought to be able to pay down that loan substantially over the next year or two.

A word of warning – interest rates will at some point go up and you could find yourself paying a much higher monthly payment. That’s why it’s important you take advantage of super-low interest rates and pay down as much of your loan as possible. I’d hate to see interest rates skyrocket to the point you can no longer afford your home.

But for now it seems interest rates are low and should remain low for some time to come.

Good luck.


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