Owners of condominiums at Horizon House in Arlington recently got the startling news that their low-interest rate, assumable loans--worth thousands of dollars to those trying to sell in today's market--had lost their assumable feature.
Just last fall, owners there had received the welcome word that, because of a new program in the secondary markets in which their lender was participating, their loans would undergo a magical transformation to assumability.
But now the prince has turned back into a frog, and some sellers there have had to lower their prices by $5,000 to make up for the change.
So far, this case appears to be an unusual one in this area, but that is likely to change, according to secondary market experts.
Most homeowners affected by this situation probably do not even know it. As always in secondary market transactions, individual homeowners are unlikely to be aware that their mortgages were among those involved--and some reportedly are having difficulty getting answers from their lenders about this even when they know to ask.
But about 500,000 loans throughout the country are involved, including about 25,000 in the Washington area, and those numbers are growing fast because the new program has become particularly popular with the savings and loan industry.
The mortgages in question are those involved in a loan "swap" program started last fall by the Federal Home Loan Mortgage Corp., also known as Freddie Mac.
Any loan owned by Freddie Mac becomes assumable with no escalation of the interest rate when the owner sells the house. Under the old Freddie Mac programs, the mortgages normally stayed that way once a savings and loan or other mortgage lender sold the loans to Freddie Mac.
But under the new swap program--which has largely supplanted other Freddie Mac loan-buying programs--this is due to change, said Don Hill, Freddie Mac vice president for communications. This is because lenders can easily get around the assumability rule simply by buying the loans back when someone sells his or her house and reestablishing the lenders' own policies over the loan.
Hill pointed out that Freddie Mac's assumability rules are in effect for technical reasons unrelated to consumerism.
"We never said this swap plan was something for consumers," Hill said.
The whole assumability issue has taken on great importance in the past few years as mortgage rates have soared, with the immediate needs of home buyers and sellers running directly counter to those of the beleaguered savings and loan industry. The S&Ls argue that they have to be able to get rid of low-interest loans, on which they are losing money, as rapidly as possible. But the main method that homeowners have turned to in trying to sell their homes in a time of sky-high interest rates is through assumptions of their low-interest loans, often coupled with an "owner take-back" where the seller holds a note for part of the purchase price.
The new Freddie Mac program has been a great success, with about $2 billion in mortgages being swapped each month now, Hill said. If it continues at this rate, Freddie Mac will have swapped almost as many mortgages in one year as it bought during the last decade.
Lenders have rushed in to exchange their old, low-interest loans for Freddie Mac "participation certificates," securities that can be bought and sold easily. The main advantage to a lender is liquidity--the ability to get cash out of the old mortgages so the money can be reloaned at today's higher rates. In addition, the lender doesn't have to record a loss on the loans since it is a "swap," and there are tax advantages to the plan. Freddie Mac makes a profit on the program because it pays a lower yield on the securities than the yield it receives on the mortgages.
The homeowner, in the meantime, was thought to have gained in the bargain, as well. This is because Freddie Mac's assumability rules supercede the lenders' "due-on-sale" rules, which prevent assumptions at the old rates, when the loan is swapped.
But then the loophole was discovered on taking the loans back, rendering Freddie Mac's assumption rule virtually meaningless as it applies to swapped mortgages.
Freddie Mac didn't know when it began the program that lenders would routinely take advantage of the buy-back provisions, but it now realizes that is the case, Freddie Mac's Hill said.
"Institutions have said they would buy them [the swapped mortgages] back" and apply their own rules to the loans when a house is sold, Hill said. This way they can escalate the rate and make a profit on the new loan.
Under old programs, the lender could buy back loans, but generally there was no incentive to do so because someone else was the investor on the loans through the purchase of Freddie Mac securities, Hill said. In the swap, lenders get securities and are the investors, giving them an interest in escalating the interest rate.
It apparently took the lenders themselves some time after the program started last year to realize that they could easily turn the rules to their advantage.
The lender at Horizon House, City Federal Savings and Loan Association of New Jersey, allowed assumptions of mortgages at the old rates from last fall until April. But in May that changed, and now an assumed mortgage there escalates to 2 percentage points below market rates with a "balloon" of three years when all of the loan balance is due, for practical purposes meaning it must be refinanced then.
Christine Rose, manager of new products and marketing at City Mortgage Services Inc., a subsidiary of City Federal that services its loans, said the S&L abided by Freddie Mac's assumption rules until it reexamined the policy in the spring, when the lender discovered that the structure of the swap plan made repurchasing the loans and escalating their rates both easy and preferable to allowing assumptions.
Mary Kirn, real estate broker with Panorama Realty, said that three units on the market at Horizon House--with old rates as low as 10 1/2 percent--had been priced $5,000 above comparable units because they had the Freddie Mac assumable mortgages. With the City Federal change, the owners had to drop the asking price back down to market rates of around $75,000, Kirn said. Some had turned down offers on the apartments, waiting for top dollar in the meantime, she added.
Mary Howard, president of the Northern Virginia Board of Realtors, said she did not know of any other situation similar to that at Horizon House and that lenders so far seem to have treated swapped mortgages the same way they treated other loans sold to Freddie Mac.
But Howard noted another problem related to Freddie Mac assumptions. Some Northern Virginia Realtors have had difficulty getting lenders to report whether a loan has been sold or swapped to Freddie Mac--and Freddie Mac has no system by which a homeowner or real estate broker can check it out independently.
This means a homeowner may have an assumable loan owned by Freddie Mac and have no way of finding that out.
In addition, she said, many lenders have raised assumption fees from one percent to 2 or 3 percent recently.
Freddie Mac's Don Hill confirmed that assumption fees have risen and that 3 percent is "not uncommon" now. "We have no power to keep them [lenders] from raising fees to whatever they want," he added.
On the question of Freddie Mac ownership, William Sinclair--president of Washington's largest S&L, Perpetual American, as well as president of the Metropolitan Washington Savings and Loan League--said that some S&Ls do not have a central index file to keep track of the loans they sell in the secondary markets and therefore may not be answering homeowners' inquiries because they simply do not know whether those loans are owned by Freddie Mac.
Hill said that all institutions are required to tell homeowners, if they ask, that their loan has been sold to Freddie Mac. But Freddie Mac has no system for checking on individual loans or catching lenders breaking the rules, he conceded.
All Freddie Mac loans are given Freddie Mac numbers and are on computer, but they cannot be checked by a homeowner's name or address, he explained.