Home Buyers Forced to Change Tactics

By Dina ElBoghdady
Washington Post
Staff Writer
Wednesday, August 29, 2007; D01

The credit crunch has turned $417,000 into the magic number for home buyers shopping for mortgages.

Rattled investors have become reluctant to buy loans for more than that amount -- known as jumbo mortgages -- and that in turn has pushed some lenders to raise interest rates. Caught in the middle are potential home buyers who are getting walloped by higher rates or shut out of the market.

The phenomenon is particularly significant in Washington, where half the homes sell for more than $417,000. Here, home buyers are figuring out how to adapt to the new circumstances by making larger down payments or splitting their purchase into two loans to dodge higher rates. Others are sitting tight until the rates go down.

The course they take can have deep implications for the mortgage industry, the housing sector, and by extension, the economy. If too many potential jumbo-loan borrowers wait it out, chances are the excess supply of homes on the market will swell, further dragging down prices. Home values fell in 15 of 20 large metropolitan areas in the second quarter from a year earlier, according to a report yesterday from S&P/Case-Shiller. They fell 7 percent in the Washington area.

About 24 percent of mortgages granted in the District, 14 percent in Virginia, and 10 percent in Maryland were jumbo loans in 2005, according to the most recent Mortgage Bankers Association data available. Sixteen percent of all new mortgages last year were jumbo loans, according to the trade publication Inside Mortgage Finance.

"Lenders are all putting our collective heads together to come up with a new way to get borrowers into houses," said Bill McGoey, a senior vice president at American Partners Bank, owned by the thrift holding company Federal City Bancorp of the District. "There are tools that we've been using forever, but we've had to tweak them to suit the current situation."

That tweaking benefited Melissa Pool, who took out a jumbo loan to purchase a new $950,000 loft in Arlington. Her father, Otis Pool, helped arrange the logistics but said the experience "kind of put me in a tizzy."

Pool said his daughter signed a contract for the loft a few months ago while it was under construction, but as the closing date approached and the jumbo rates jumped, her mortgage company, First Savings Mortgage, arranged an alternative.

Her loan officer advised her to apply for a piggyback mortgage, meaning two loans. She made a $350,000 down payment, as planned. Then she split the remaining $600,000 between a first loan for $417,000 and a second at a higher interest rate for the balance.

The combined rate of the two, 6.875 percent, was about half a percentage point lower than the jumbo loan would have been, the mortgage company said.

So what's so special about a $417,000 loan?

Fannie Mae and Freddie Mac by law can purchase or guarantee loans for single-family homes up to that amount. The limit is determined annually by federal regulators based on the average home price nationwide from October to October. Some members of Congress want to increase the limit in light of the current mortgage problems.

Loans that meet Fannie and Freddie rules are called "conforming" loans, and they are about the only types of mortgages that investors want to buy now because they are perceived as safe bets.
Investors lost their appetite for non-conforming loans soon after subprime borrowers, typically those with poor credit, started defaulting on their loans at an alarming rate this year.

Jumbo loans are not nearly as risky as subprime loans, but they too are non-conforming and also suffered when investors yanked their money out of the non-conforming market. With investors' money gone, many firms specializing in jumbo loans were left with little money to fund mortgages.

Some shut down, including a unit of Capital One of McLean, which closed last week. Others stopped making loans, as Thornburg Mortgage did this month. Countrywide Financial, IndyMac Bancorp and other large lenders are getting more selective about who gets jumbo loans.

Many lenders reacted by simply raising their rates. Some did it to offset investor concerns by offering better returns for their money. Some also wanted to pull back on granting those loans until they could find investors to buy them on the secondary market.

That led to a widening gap between jumbo and conforming loans in recent weeks, making the former more expensive. While jumbo rates were rising, a conforming 30-year fixed-rate loan is the lowest it has been since June.

Lenders were charging an average 7.46 percent for prime 30-year, fixed-rate jumbo loans last week, compared with 6.57 percent for conforming loans, according to mortgage research firm HSH Associates.

That's why consumers are angling for conforming loans and why some lenders are accommodating them with such options as the piggyback.

But a piggyback mortgage is tougher to find for people with less-than-stellar credit. And sometimes the math does not work out even for those who qualify for that arrangement, said Steve Calem, vice president of real estate lending at American Bank of Rockville.

For people buying homes of $1 million or more, a second loan may be so large that the combined rate of the two loans far exceeds the jumbo loan rate, Calem said. Second mortgages are more risky for lenders and typically carry higher rates than first mortgages.

"You really need to know how to cut these things up to get the best rate," Calem said. "A little bit more on the first or a little bit less on the second could add thousands of dollars to closing costs and interest expenses for the consumer."

The numbers did not work in Mike Stidham's favor. Stidham was approved for a jumbo loan that fell through a day before he was to settle on a $560,000 home near Baltimore.

Stidham, who works in advertising sales, put no money down, something lenders now frown upon. His lender had his home reappraised at the last minute. The value came back lower than the original appraisal, and the lender canceled the loan.

Stidham scrambled and found a new loan through his mortgage broker at Universal Trust Mortgage in Columbia. But the jumbo rates had increased in the meantime and now he's paying $230 more a month than he would have under the original loan.

"We had no choice. I had sold my house that Monday and I had to settle on Tuesday," Stidham said. "So I had to take my lumps."

Tammy Arbogast and her husband, Derrick Fouts, were in less of a bind. They own a townhouse in Germantown. Now that they have two young children, they want a larger home and were planning to buy one nearby until jumbo rates shot up and pushed them to reconsider their options.

Instead of buying the home and then selling the townhouse, they hope to do the reverse. But even if they get the asking price for their townhouse, they may need a jumbo loan. To lessen the borrowing costs, they could make a larger down payment by dipping into their kids' college savings, but they prefer not to.

"We can just stay put in our townhouse," said Arbogast, an environmental health and safety specialist at a nonprofit organization. "We'll just wait it out."

Doing so might mean passing up the house they've been eyeing, but that's okay, said Fouts, a scientist at a nonprofit group. "You can't get attached to a house in this climate. It's so easy to lose a house because of variables out of your control."

The question now is how long the jumbo rates will stay this high, said Mark Fleming, chief economist at First American Core Logic. "If this lasts much longer, then people will begin to reevaluate what they can afford."