Was the Mortgage a Mistake?
Sunday, August 19, 2007
Two years ago, my wife and I sat at a long conference table in a mortgage-title office in Bethesda. Sitting next to us: our real estate agent, who drew up our bid on a townhouse in Germantown two days after showing it to us. We didn't get an inspection, and I don't recall going back for a second look. We had to act fast or someone else would get it.
Our bid won the house -- our very own first home -- and now we had to close the deal. The owners sat across the table. They seemed more nervous than we did, perhaps fearing we would have second thoughts -- about our risky interest-only mortgage, about seeing them walk away with a $120,000 profit, about buying a house just as "bubble" was entering the regional lexicon.
They signed. We signed. Price tag: $459,275.
And then, as the saying sort of goes, the stuff hit the fan. The sizzling home market almost immediately began to cool off, which my wife and I sort of ignored. Interest rates started to creep up, and we sort of blew that off, too. We have time. This too shall pass. No worries. Life is good! We bought a flat-panel television, took a nice vacation, bought a dog, hired him a daily dog-walker, and then we got pregnant. We have time. This too shall pass.
But now, with our baby due in six weeks, the stock market has taken a serious drive south, with the Standard & Poor's 500-stock index dropping 6.9 percent since its high on July 19 after problems emerged for subprime lenders, who gave loans to people with spotty credit at the height of the frothy housing market. The contagion from the busted subprime sector has hit credit markets hard, and now Brian Williams and Charlie Gibson and Katie Couric are talking every night on the national news about how hard it will be to get credit, perhaps leading to more problems in the housing market.
I walked in the door one night last week, and Brian Williams was talking to my wife. I heard the word "subprime" from the TV. She looked at me and said, "Should we be worried?" I said, "We have plenty of time." But the truth is, I am getting nervous. And a few days later, when I told my wife I was indeed worried and writing about it for this newspaper, she said, "You're going to give me a panic attack." She paused and then added, "Did we really mess up?"
My wife, who is a physician, asked a question that thousands of other people in the region must be asking now, too. In 2005, the year we bought our house, nearly 40 percent of the mortgages in the District were interest-only, according to LoanPerformance, well above the national average of 27 percent. Interest-only loans typically mean that buyers lock into a low interest rate -- about 5.125 in our case -- for the first three or five years, without paying principal, before the loan balloons into a 30-year, fixed-rate mortgage tied to current interest rate indexes.
Our loan is tied to the one-year London interbank offered rate, or Libor. On June 1, 2010, our interest rate will be whatever Libor is, plus 2.25 percentage points. Our total interest rate could jump as high as 10.125 percent, according to our mortgage papers, which would be rather unpleasant. If our loan ballooned now, as many others have, our interest rate would be 7.48 percent.
But that wasn't really on our minds two years ago. For us, and I suppose others who signed such deals, the lower payments afforded by an interest-only loan helped us buy a house in an expensive county -- Montgomery -- where we wanted to live and eventually send our children to school. Our payments were significantly lower than what they would have been with a 30-year fixed-rate mortgage, meaning we could buy a nicer, larger home. Also, with the real estate market then booming, we planned to sell the house within five years anyway -- for a big profit, just like the previous owners got from us -- so why pay principal on what was essentially a starter home?
Could we have lived farther from the District for less money, perhaps allowing us to get a less risky mortgage? Yes. Could we have continued to rent, waiting, perhaps, for the market to even out and our salaries to increase? Yes. But we already make nice livings. We pay taxes in the highest bracket. Our parents bought homes at our age. It may sound crass, but we deserved a nice home. We did what we had to do to get one.
Besides all that, our mortgage broker and real estate agent kept confirming what we wanted to believe: nothing to worry about.
This week, I did what I probably should have done before signing the loan. I called some financial planners. Barry Glassman at Cassaday and Co. in McLean was blunt: "In hindsight, the market went the other way. In hindsight, the numbers are going against you." If we wanted to sell our house now, we probably wouldn't make a dime. In fact, we could lose money on the deal, if you throw in all the fees and commissions. We are pretty much locked into a house that, it appears, will grow more expensive.
I asked Glassman about our options. I told him that it seemed the best one was something totally out of our control -- a recession. If the economy really tanks, it would likely cause interest rates to fall sharply, meaning that lots of people would lose their jobs, but my wife and I could refinance our house at a much lower rate. Obviously, my wife and I do not want anyone to lose a job, even if it would help us, but isn't it bizarre that one of the ways to get out of a risky loan is for other people to suffer? The world is a tricky place, and nobody teaches you this in school.
Glassman saw our options thusly: First, we need to plan for the day when our payment will go up, figuring out whether we could afford it and if not, what we can do now to start saving so we can. The second option is to refinance at some point, but when? Glassman said we have to be constantly on top of interest rates, researching them at Bankrate.com, for instance. For peace of mind, he said, it's worth considering locking into a 30-year, fixed rate now before rates go up even more. If rates then drop, we could refinance.
"You should run the numbers through a mortgage broker right now" to see what you can and can't afford, Glassman said. The advantage to calling a mortgage broker now, Glassman added, is that "most brokers have more time than mortgage applications right now."
I asked Glassman, "Did we mess up?" He pointed out that we were still paying a lower interest rate than we would have by buying now or even starting with a 30-year, fixed rate, so that was good. And the market shakeout could end in the three years before my loan balloons. "The answer is we don't really know yet," Glassman said. "Five to 10 years from now, I'll be able to give you an answer." But then he quickly added, "Were you wrong? Well, you now own a house. You have a place for your family."
True, and we're a lot luckier than many others who have already lost their homes as the mortgage turmoil has worsened.
There was a third option Glassman and I didn't talk about, but I was reminded of it after I called Adam Iobst, a Montgomery County real estate agent I interviewed for stories at the height the market. Back then, he specialized in dealing with first-time home buyers; many of his clients financed 100 percent of their purchases if they could beat the dozens of other buyers bidding for the same home.
"As you know now, things are quite different," Iobst told me. "It's a strong buyer's market now, probably the strongest buyer's market that I have ever seen." He told me about a young couple who had purchased a small condo a couple years ago in Maryland. Now they are selling it and will probably make less than $5,000 on the deal. They are moving to North Carolina, into a new, single-family home with a two-car garage for not much more than they paid for the condo. "They are just pleased and tickled," he said. "It's amazing what you can afford in other places."