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By Ellen Yan
Jul. 29--After years of lenders handing out easy credit, the mortgage market is spiraling downward and the fallout will likely be wide-ranging. Housing sales are stagnant, and until this year, home prices nationally had not dropped on a year-over-year basis since 1997, says Robert J. Shiller, a professor of economics at Yale University.
Until recently, most of the trouble was centered in subprime mortgages, which are made to people with weaker credit backgrounds and carry higher interest rates. Lenders began raising red flags earlier this year as more and more subprime borrowers were falling behind in their payments or losing their homes to foreclosure. This forced some lenders into bankruptcy and others to overhaul their mortgage offerings.
But concerns deepened Tuesday when the nation's largest mortgage lender, Countrywide Financial, said an increasing number of borrowers with good credit were running into trouble paying their mortgages, prompting fears that the housing market would not rebound anytime soon.
The industry's growing troubles weighed heavily on the stock market last week, contributing to a 311.50-point sell-off in the Dow Jones industrial average on Thursday and a subsequent 208.10-point drop on Friday.
Today and tomorrow, Newsday examines the impact of the industry's woes on two groups.
In the first installment, we look at how homeowners who are unable to pay their mortgages and face foreclosure are increasingly opting to give up their homes in "short sales," a tactic rarely used over the past 20 years. Tomorrow, we explore how lenders are tightening their credit standards -- requiring better credit scores and higher downpayments -- because of the troubles in the industry. These moves are making it harder for first-time home buyers to secure mortgages.
First of two stories
In happier times, Hugh Hammill lived in a Mastic fixer-upper bought for $100,000, but soon, he will sign away his house in a way that damages his credit and forces almost all involved to take a loss.
His house, appraised in the low $220,000s, will go to a buyer paying about $183,000, which is almost what Hammill's two lenders will recoup on a $300,000 refinancing.
The deal staves off foreclosure for Hammill, 47, a printing business owner who stopped making payments a year ago on his refinanced mortgage. He said he used the loan to pay other debts, repair after deadbeat renters and make up for his printing business, which was suffering in the digital age.
"There's going to be no money out of my pocket," Hammill said, "and I'm not going to have any money in my pocket."
It's called a "short sale" -- a house sale in which lenders, creditors and often real estate agents agree to take hits on what they're owed, with homeowners asked to prove they are destitute and that the property's market value is less than the mortgage. Some lenders figure they are better off getting some money now rather than risk ending with less under the more expensive and time-consuming foreclosure process.
A seemingly lost tactic for almost 20 years, such deals have made a comeback, amid the turmoil in the housing market.
Just in the past six months, business at the National Short Sale Center has shot up 350 percent, said its president, Travis Olsen, whose Arizona-based company charges $995 to negotiate short sales. The company has been getting 3,000 calls a month, compared to 500 six months ago, he said. "We can't grow fast enough," Olsen said.
No one seems to keep industry-wide statistics on short sales yet, and lenders say their numbers are proprietary, but the consensus is that attempts at short sales have risen.
That's because many homeowners who took on more debt than they could handle in the recent real estate boom are using desperate measures to stave off foreclosure and deeper debt as home prices fall. Many bought property after being lured by low "teaser" mortgage rates that have started to rise sharply. Others want to move but can't attract prices to cover the mortgage.
Banks, lenders and industry officials use the word "staggering" to describe the number of loans whose teaser and fixed rates will expire soon -- up to $1.5 trillion in loans this year, according to the Mortgage Bankers Association.
This year in New York, more than 30 percent of subprime, adjustable mortgage loans will see new interest rates for the first time, with approximately 25 percent re-setting next year, according to the state Banking Department. Many loans that originated last year will go from 8.4 percent to 11.4 percent, according to state figures.
Defaults and foreclosures soar
Default rates are rising and so are foreclosures -- a 40 percent increase in New York last year. At the same time, the lending industry is full of companies that gave "creative financing" to people who clearly could not afford to pay their mortgage over the long term. The carnage in the industry is so bad that some insiders log on daily to ml-im plode.com to get a list of the latest mortgage lenders to go under.
It's happening so fast that Michael McHugh, vice president of the Empire State Mortgage Bankers Association, apologizes for not knowing the number of lenders on Long Island, noting that companies with no history have proliferated during the boom housing years and contributed to the current sea of risky loans.
Such facts and figures have made short sales into a life raft, but there's a bigger picture in why people can't make their mortgages. Towns have been cracking down on illegal apartments, scuttling rental income for owners, or designating the house as a multifamily property -- with the more burdensome, commercial tax. Taxes in general have risen. So has the for-sale housing inventory, with the increased competition driving down prices.
Lenders expect a deluge of short sales as word of the option spreads, but McHugh and others say few lenders are gearing up. Already, agents and short sales specialists report, lenders can't act fast enough on short sales sometimes to forestall foreclosures.
"It's a new ballgame," said McHugh, who also heads Continental Home Loans in Melville. "It's ridiculously caught a lot of people by surprise."
A generation of industry workers, from agents to lenders, have never heard of short sales, and businesses have recently cropped up to do such deals. Homeowners, many of them immigrants who didn't understand loan terms or owners who recently refinanced, are writing "hardship letters" to lenders and submitting proof of destitution. Lenders worry over making the right decisions and face people trying to con their way out of contracts.
From no talk of such deals in 2005 to a dozen cases involving his company last year, Michael Litzner, owner of Westbury-based Century 21 American Homes, predicts the number will rise, because for lenders, time is really money.
"Money today is worth more than six months or a year from now," Litzner said.
Shorts sales can be difficult to do. Usually, the property owner first finds a buyer, who could be getting a bargain because the lenders want to erase bad debt quickly. Then, the owner must write an explanation and gather paperwork, including bank statements, to prove there's no exorbitant spending or hidden money.
Next, the owner, the agent or a lawyer gets recent prices sales in the area to prove that the buyer's offer is fair.
Several parties must agree
A short sale depends on several parties' approval, from key departments in the loan company to all those holding liens on the house.
At Wells Fargo, one of biggest lenders, short sales have not reached "dramatic" numbers, but they are being used more in areas where the housing prices saw "historically fantastic" appreciation, said Patrick Carey, senior vice president of defaults and retention operations.
"You will probably see more short sales as markets correct," he said, but the growth has not been "significant" yet.
Carey said some money-strapped people may have a knee-jerk reaction to ditch the house, so Wells Fargo tries to explore other options and asks the question: "Is the person really at the point where they think they want to leave the property?"
By doing short sales, property owners' credit ratings won't fall as drastically as in foreclosures. They can get loans after a year of good credit, compared to several years for foreclosed owners. Also, they will be able to rent more easily than after foreclosure.
"It shows you're trying to do something rather than being a deadbeat," said Hammill, who moved in with his mother in Seaford a few years ago to take care of her and began renting his Mastic house.
But a short sale is not the big fix. "It's sort of a bullet wound to the eye rather than a bullet wound to the head," said Syosset attorney Lance Margolin, who works for lenders and has two short sale cases. "The problem doesn't go away."
Lenders will probably report the unpaid loan amount to the federal government, which can tax it as income if the homeowner does not provide the IRS proof of insolvency. Also, creditors can pursue repayment later, unless that's negotiated out in the sale.
Not all costs can be counted in dollars. Mortgage stress has broken families, as in the case of a Brentwood mother of three, whose husband left her months ago after blaming her for signing a variable rate loan.
"I don't want to lose my house," said the woman, who gave her name as Maria. "I didn't eat well, I didn't sleep well. I just worked so the kids could eat."
She speaks Spanish and still isn't clear on what she signed.
It's her real estate agent, Jose Martinez, who knows the 7.25 percent rate on her $300,000 loan jumped to about 10 percent last year. Monthly payments shot to about $3,100, while she makes $2,000 monthly in a factory.
With the help of Martinez, owner of Power Team Realty Corp. in Brentwood, she is trying for a short sale on her six-bedroom house after skipping about seven payments.
Many other families in the area, which has many minority and low-income residents, feel the same crunch. At least 500 properties in Brentwood and also in Bay Shore are for sale.
Martinez, whose office has 22 open short sale cases, said lenders took advantage of people like his client.
"You come to this country and your dream is to have a home in this country," he said.
A run of bad luck led to a short sale for Monae Bert, a bank loan officer and property investor who had a Brooklyn home until this month. Shortly after the last of several refinancing deals on her Canarsie rowhouse, she hurt her leg skiing about two years ago and missed several months of work. Then company issues led to a drop in husband Tony's salary.
With her rates adjusting a few times, the monthly mortgage jumped from $2,000 to $4,300. The Berts stopped paying about 15 months ago and tried to sell but couldn't get the $525,000 to cover the loan.
The Berts are happy now, after everyone agreed to a buyer's $500,000 bid.
Experience of early 1980s
Some lenders won't consider short sales, but many take a lesson from the early 1980s, a time of 18 percent rates and frequent foreclosures.
When lenders took over some of the houses, they found them wrecked by angry homeowners and then had to pay for upkeep and taxes while the properties sat on the market, said Georgianna Finn, owner broker of Coach Realtors, based in Northport. She remembers residents of a once-gorgeous colonial stripping it of anything valuable, from countertops to cabinets, before the bank took possession.
So when bad times hit again in the late 1980s and early '90s, lenders negotiated short sales.
But each short sale case has its own personality and many attempts end up failing. A homeowner with less debt could be turned down by the lender. A buyer may get antsy and pull out. Creditors furious with the homeowner may refuse to negotiate.
This intricate market has made Elon Bar-Evan popular in real estate offices these days. As founder of the year-old Equity Creations, which does just short sales, he has given scores of presentations on the topic.
Last week, at Martinez's Brentwood office, agents who were babies during the first go-round of short sales listened as Bar-Evan outlined his secret "formula" for a quick deal. Figuring in the lender's style and other factors, the Coram businessman has come up with what he calls an "immediate contract price" that will attract a buyer in two weeks.
It was like a pep talk on how to make a living on short sales despite the housing slowdown.
"They're tedious, they're time-consuming," Bar-Evan told them. "But these are the best deals out there."
WHAT SELLERS SHOULD KNOW
Credit rating takes a dive after a short sale but not as much as in a foreclosure.
Unpaid amount of loan, considered debt forgiveness, could be taxed if there's no proof of insolvency.
Many lenders reserve the right to pursue debt later but this is open to negotiations.
Chances of getting a loan in the 12 months following short sale are almost zero.
Most lenders don't want to foreclose, a costlier and time-consuming alternative -- information that can be leverage for a short sale.
The short-sale process can take more than 90 days and require months of financial records.
Finding real estate agents and others experienced in short sales can help speed up the process.
Potential buyers may not want to risk waiting for a house on a short sale or pull out if they are not told early on.
Any property taxes, agents' commission and other fees can be wrapped into a short sale.
WHAT BUYERS SHOULD KNOW
Short sale can take 45 days and longer.
Proposed deal could be rejected by lenders, lien holders and others involved.
Lenders could require real estate agents and attorneys to take smaller commissions.
A house on a short sale path could carry a better-than-market price, because lenders want to get bad debt off books quickly.
Copyright 2007 Newsday Inc.
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