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American Homeowners Struggle with Mortgage Refinances

elderly couple reviewing financial documents
Mortgage loan refinances are available for borrowers as a way to capture a lower interest rate, but they only assist those that can gain approval.

Over seven million American homeowners are underwater on their mortgage loan. Although a recent CoreLogic report found that 2.5 million homeowners have risen out of this status in the second quarter of 2013, there are millions left that have been rejected.

Loans.org spoke with some of these homeowners about the failed refinance process and additionally with real estate experts about why consumers are routinely rejected.

The Rapid Rise and Decline

At the beginning of 2013, refinances occurred at a rapid pace due to historically low interest rates shown in rate reports. In their second quarter 2013 report, Freddie Mac found that borrowers who refinanced through the government Home Affordable Refinance Program (HARP) saved an average of $4,300 in interest payments for the first year. This equates to about $358 per month.

But just as quickly as the interest rates dropped to lows, they increased to yearly highs. Borrowers who waited too long to capture the low rates were then faced with significantly higher rate options which caused most to pause their refinance process. Refinances were no longer viewed as a great deal like they were in the past.

Homeowners weren’t the only victims though. This sharp interest rate rise later created issues with banks because they were forced to shift their focus away from the refinance market, which, up until this point of undesirability, proved to be one of the industry’s largest revenue creators.

Refinance Denials

Jon Dulin was turned down for a refinance multiple times in the past five years. When he purchased a home outside of Philadelphia in 2007, he received a 6.375 percent interest rate. Two years later he applied for his first refinance in order to free up cash and allow him financial breathing room.

The bank was helpful at the beginning and Dulin felt that a refinance would be approved, all until appraisers viewed the home.

“Appraisers were getting heat from being so lenient with appraisals back during the housing boom,” Dulin said.

Because of the added caution after the housing crash, Dulin’s mortgage appraisal came in below estimates and he was denied the refinance. He was disappointed but able to survive by sticking to a strict budget.

After HARP was introduced during the spring of 2009, Dulin approached the refinance market again only to be denied due to an underwater status.

Another few years passed and Dulin looked into a regular refinance again. But he was hit with more hurdles. His housing development was not FHA approved so he was ineligible for a loan.

Currently, Dulin has stopped trying to refinance his mortgage loan. If his housing development gains FHA approval, he said he will try once again to get a lower interest rate.

Another homeowner, Carly Fauth, was also rejected on a refinance for her home. Fauth, the head of marketing at MoneyCrashers, and her husband were rejected on a refinance earlier this year because their debt-to-income ratio was higher than the bank’s limitations.

She applied in order to get a 4.5 percent mortgage loan interest rate.

“I was motivated to do a refinance as soon as I heard that interest rates were on the rise,” Fauth said. “I think other consumers thought the same, but with the uptick in interest rates of late, many have begun to shy away.”

Even though rates have increased, she plans to re-apply for a refinance in the near future once her debts have been reduced.

For Graeme Gibson, the evolving nature of adjustable rate mortgages became the issue. When Gibson, a travel adviser for Dental Departures, purchased a home with his wife in 2007, they received a 6.25 percent interest rate on a 5-year jumbo ARM. This rate would later jump to 7 percent.

Two years later the couple decided to refinance in order to capture lower rates, but were met with issues similar to what Dulin experienced. A new appraisal didn’t allow for enough equity in the home to refinance.

“I was of the opinion that they undervalued our home substantially, but they simply blamed the new rules they now had,” Gibson said.

Reasons for Rejections

As shown by Gibson and Dulin, home equity is a major hurdle for homeowners looking to refinance. If the home lacks the supposed value it used to, it is harder to get a refinance from a lender.

Another reason why borrowers are rejected from refinances is because of the Federal Housing Administration’s Net Tangible Benefit (NTB) rule. This rule states that the refinance has to benefit the consumer in order for it to be approved.

The total monthly mortgage payment must be reduced by at least 5 percent in order for homeowners to be eligible for a refinance according to Tim Lucas, editor of Mymortgageinsider.com.

“If the rate or payment isn’t dropping enough or there is not another benefit, the underwriter can reject the loan,” Lucas said. “With rising interest rates, dropping a payment by 5 percent is getting tougher.”

But all experts are not convinced that the NTB rule inhibits the housing market.

Fauth believes it helps to improve refinances. She said that for the 7 million homeowners that are underwater on their mortgage, this rule gives them options.

“It is beneficial as a rule as long as the homeowner doesn’t default, although that’s less likely since the goal of the streamline refinance is to lower a homeowner’s monthly payment,” she said.

Another reason for fewer refinances is simply because homeowners are not applying for them. Some consumers failed to refinance not because of rejections, but simply because of poor timing.

Acquiring a refinance was not extraordinarily difficult in the past few years, but some homeowners decided to wait until the rates hit rock bottom. The part they didn’t foresee was the sudden spike upwards.

The rapid change seen from May to July 2013 surprised many prospective homeowners. For the 30-year fixed rate mortgage, 3.24 percent was reported on May 2. Two months later, on July 11, the rate was reported at 4.42 percent.

Aaron Mighty, owner and broker of Mighty Realty, received some contempt from his clients after this spike. They were upset that they missed an opportunity to save each month.

“Most felt that with such low interest rates that they simply would have more time to capitalize on the rates,” Mighty said. “When rates jumped an entire interest rate percentage in less than 30 days, most in the finance and real estate world were caught off guard.”

Despite the rapid increase, Mighty said the refinance market kept the housing market afloat for a period of time. Without the option, short sales and foreclosures would have flooded the market. The HARP program further aided the housing industry.

For homeowners who purchased homes in the last few years, Mighty said they received some of the lowest interest rates in history and will likely not refinance in the future.

A final reason why homeowners are turned down is because of a changing housing economy.

About five years ago, interest rates were around 6 percent, so few people decided to refinance for a lower interest rate. Lucas said that most refinances were completed in order to cash in on home equity.

After the housing crash, home equity refinance opportunities dissolved and lending restrictions tightened. But a newer market of home refinances expanded because of the lower mortgage loan interest rates.

The strong refinance market of the past has now calmed down. Although several refinance programs remain today, Lucas said there has been a dramatic decrease in refinance applications in the past year.

The largest drop occurred between May and June of this year. An FHA production report found that streamline applications reduced from 56,000 in May to just 19,000 applications in June.

“We see the refinance market coming full circle — from cash-out refinances converting to standard and streamline refinances, and now we see cash-out refinancing becoming popular again as rates rise and home equity grows after double-digit price appreciation in some areas,” Lucas said.

Additional Outcomes of Refinance Reductions

When certain markets recede, it affects other markets. The staggering reduction in refinances is not only hurting the consumer market, but the employment and consumer market as well.

Last week, Bank of America announced that it would layoff 2,100 employees. Last month, Wells Fargo acted similarly for 2,300 employees. The struggling mortgage refinance market is getting the majority of the blame for the employee layoff sweep.

Refinances used to be the most requested loan product offered by major lenders, Mighty said.

In order to make up for the loss of traditional refinances, other options will likely become popular. Creative refinances and lending options such as the 5/1 and 7/1 adjustable rate mortgages and the Libor Refinance will become more popular.

Another side effect of reduced refinances is the amount of disposable income available for each family. Fauth explained that if a homeowner has a $200,000 mortgage at a 6 percent interest rate, and is able to reduce that interest rate to four percent, the borrower could save $3,000 each year.

“That gives the homeowner more money to spend, thereby providing a boost to the economy,” she said.

Mighty also agrees that refinances are a large aspect of the economy. New business transactions and added capital to a rebounding economy.

“Although some see them as just an exchange of money from one lender to another, it actually provides monetary savings to homeowners and new businesses for financial situations,” he said.

Despite the figures showing a total reduction, Leslie Piper, consumer housing specialist at Realtor.com, believes that some homeowners are still open to a refinance.

“Most families or individuals who had the option to refinance or jump into the market did so,” she said.

The homeowners that failed to refinance were likely suffering financial hardship still.

“Refinancing has loosened up a bit but is challenging for someone without great credit or financial baggage,” Piper said. “Lenders are much more cautious about who they lend to these days.”

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