Forbearance Will Affect Everyone

Even if you are making your mortgage payment and not electing to take forbearance, millions of others in the US are, and it will affect you.

As of April 23rd 6.4% of all US mortgages went into forbearance. That represents about 3.4 million homes. But the shocker is the staggering number of newly opened mortgages where the homeowners enter into forbearance before making even the 1st payment. This is the critical situation we will focus on today and how it affects all borrowers.

In the “normal” world of mortgage financing, the originator provides you the financing for your purchase or refinance transaction. When completed, a good majority of the loans are then sold to Fannie Mae and Freddie Mac. In turn, the lender gets their money back, plus a commission, and can use those funds to lend out again. If the borrower defaults on their 1st payment, Fannie and Freddie will require the lender to return the funds for that loan because the loan violated the terms of the agreement the lenders have with the two government held organizations.

But that was “normal”. Now the government has issued a free-for-all that anyone without any proof of hardship will be granted forbearance – even for those that just got a new mortgage. The problem the lenders have is that the government holds all the cards. They mandated borrowers could skip their payments, and yet they also force lenders to take back these bad loans for a circumstance the lenders had no say in agreeing to. Lenders make money by cycling their pool of funds by originating mortgages. If their funds are tied up in bad loans, that reduces their ability to originate, which reduces the amount of income they can generate.

How does all this affect you? I promise the answer is coming soon. I just needed everyone to understand the process first.

This week Fannie Mae and Freddie announced a policy change in which they will buy loans in which the 1st payment was skipped and now the loan is technically in default. Their collective generous offer to the nation’s lenders is that if they buy that bad loan, they will charge lender between 5 and 7 points. What? That’s right, if you just bought a home or refinanced your current mortgage, and elected for forbearance and skipped the 1st payment, your lender will be charged a minimum of 5 points on your loan.

If we use the average Hawaii mortgage amount of $400,000, and you don’t make your 1st payment, your lender will be charged $20,000 by Fannie or Freddie. Typically, lenders make about one-half point on your loan, or $2,000. It doesn’t take a rocket scientist to figure out that you can’t lose $18,000 very often and still remain in business. Lenders have only one option – increase the amount of money they make on all loans to stockpile funds for those that go bad. And that’s how forbearance will affect everyone.

Despite the cratering of the economy and what investors are willing to buy mortgage backed securities for, if lenders must now start stockpiling funds to cover bad loans, this will keep rates artificially high. That affects every American wishing to refinance their current mortgage to a lower rate, or maybe take advantage of the current economic situation and buy a property.

Once again forbearance is another example of the adage “there’s no free lunch”. I know a lot of young people may have never heard that expression before, but it is one of the truisms of life. Nothing is free. In the end someone always pays. In the case of forbearance, if you thought it would be the government or the banks paying, you’re wrong – it’s everyone else wishing to get a loan.