If you are waiting for government help to stop foreclosure, you will need to wait until President Elect Obama and the new congress is seated before you have any financial difficulty. That’s because the existing program, Hope for Homeowners (H4H) is great for the government but not so good for anybody else. When the initial plan was unveiled by the Federal Housing Administration (FHA) the anticipation was that it would help to save over 400,000 homeowners from foreclosure. H4H went live on October 1st, 2008 and in the first two months relatively few homeowners have taken advantage of it. There will be many articles touting it as a great thing that will help many people. To me, it is a fairly stupid idea.
H4H requires lenders to take a serious haircut and for borrowers to give up their equity. At first look, it seems like a good idea. Under further investigation I think it falls apart. Let’s take a look at how the FHA describes this will work. For purposes of discussion, we will presume that you paid $250,000 for the house with a 10% down payment. The example information below is taken directly from the FHA website.
These are examples of how the unique equity and appreciation sharing elements of this program work. Keep in mind that these are only examples, and your actual experience will depend on many things, including how much your home increases or decreases in value1
Let’s say your home has an appraised value at the time you receive your FHA mortgage of $200,000.
And your mortgage is 90% of this, or $180,000.
This means the initial equity is the difference between 1 and 2, or $20,000.
In this example, you and the FHA share this $20,000 when you sell your home or refinance your loan, because the program requires you as the homeowner to share the “equity” created when the lender walks away from $45,000 of debt.
Here’s how that $20,000 would be split:
If you sell or refinance:
During Year 1 FHA receives 100%, or $20,000 you receive 0%, or $0
During Year 2 FHA receives 90%, or $18,000 you receive 10%, or $2,000
During Year 3 FHA receives 80%, or $16,000 you receive 20%, or $4,000
During Year 4 FHA receives 70%, or $14,000 you receive 30%, or $6,000
During Year 5 FHA receives 60%, or $12,000 you receive 40%, or $8,000
After Year 5 FHA receives 50%, or $10,000 you receive 50%, or $10,000
So, if you sell or refinance right after receiving the new loan, the FHA keeps the equity that was created, and you don’t receive any of it. On the other hand, let’s assume you stay in this loan and don’t sell or refinance for ten years. At that point, you’re entitled to half of the equity – in this example, that’s $10,000 – and the FHA is entitled to the other half2.
In addition to this equity sharing, you will have to share any future home price appreciation with the FHA. This means that, if your home has gone up in value between the time you receive your FHA mortgage and the time of your home sale (or other disposition); you will share the amount of this increase with the FHA (less closing costs and a portion of any improvements you have made). This is a 50/50 split that does not change over time.
For example, if:
1. The value of your home when you take out this loan is……………………$200,000
2. After some years, you decide to sell. Now the home is worth…………………$250,000
3. That means the appreciation is the difference between 1 and 2, or………………$50,000
In this example, you would keep half of this, or $25,000. The FHA would also receive half, which is also $25,000.
Naturally, if the value goes down, there will be no equity to split and therefore no issue. Fortunately, given enough time, home values always improve, so you will see some proceeds from equity growth at the time you sell or refinance. Did I mention that you also cannot go get a second mortgage except for making home improvements? That's right! A second mortgage would cut into the equity, of which the government is entitled to half, unless you're making improvements and thereby increasing the amount of equity that the government gets. Even if you are currently in trouble, would you consider using this type of government help to stop foreclosure? Or would you look for some sort of assistance that is not so intrusive?
Now I know what you're thinking, what if I don't sell my house? I'll just stay in it until a mortgage is paid off. Maybe even pay it off early and enjoy the house in my retirement. This way I'll never pay the government anything. Not so fast! Take a close look at the information above and you will see which you must pay the government their half of the equity when you refinance, sell “or other disposition” of the property. Your estate could potentially have to pay the government half of the equity when they inherit. This could force them to sell or refinance the house. Is that what you want?
Today banks are in the mood to negotiate and modify loans in order to avoid foreclosure in the first place. This could be a far better option for you than expecting any government help to stop foreclosure. I'm afraid that help from the lender is the best you're going to do, at least until the new President is seated.
