News
12-08-2006, 08:23 AM
Is Now the Time to Trade In
A 'Piggyback' Mortgage?
By Terri Cullen
From The Wall Street Journal Online
When you write a personal-finance column, being hit up for advice by friends and colleagues comes with the territory. Recently, a colleague asked whether the time was right for his wife and him to refinance their mortgage. Mortgage rates have fallen since they purchased their first home and they wondered whether they might save some money -- and worry -- by refinancing.
Normally, I would have simply directed him to WSJ.com's "Should you refinance?" tool, which calculates whether refinancing to a lower-rate loan makes financial sense once all the closing costs necessary to obtain the new loan are taken into account. But his situation is a bit more complicated. When he and his wife bought their home, they took out a so-called piggyback mortgage.
Talk with Terri
Are you stuck in a piggyback mortgage or other type of creative home financing that you want -- or need -- to refinance? What led you to choose the financing you did? Join me and your fellow readers in an ongoing discussion about refinancing mortgages.
Piggyback mortgages, which stack a smaller home-equity loan or line of credit on top of a primary mortgage, became popular in the late 1990s. These mortgages were the first in a "creative financing" wave that made homes more affordable for homebuyers and helped to fuel the recent boom in the housing market. A piggyback loan is commonly designed as a primary mortgage that covers 80% of the home's cost, paired with a second loan that usually covers 10% to 20% of the remaining cost. (Anything left over is accounted for by the down payment.) Lenders have gotten much more creative with financing options so there are many varieties of piggybacks -- such as 75%/15%/10%, for instance.
The number of homeowners who use piggyback loans to buy their homes is growing: A Wall Street Journal Online/Harris Interactive poll found that 12% of homeowners had piggyback mortgages, up from 10% last year. Why divide up a loan in this way? To help homebuyers avoid paying private mortgage insurance, the pricey coverage lenders demand when homeowners need to borrow more than 80% of the value of a home with a primary mortgage. Typically, PMI costs 0.5% of the loan amount, or roughly $108 a month on a $250,000 mortgage. With a piggyback mortgage, a homeowner isn't borrowing enough with one single loan to trigger the need for PMI.
My colleague could save a little more money by refinancing with an adjustable-rate loan, but doesn't want to risk the rate of an ARM zooming if mortgage rates go up. Given the current condition of the U.S. bond market, which determines most mortgage rates, ARMs with an initial fixed-rate term of five or seven years wouldn't offer a much lower rate, says George Hanzimanolis, president-elect of the National Association of Mortgage Brokers. (He suggests they stick with a fixed-rate loan.)
Another thing my colleague should consider is how long he and his wife intend to live in the home. If it's likely they'll move in less than seven years, it probably doesn't make sense to refinance, since closing costs will eat up much of their upfront savings. The couple does hope to move to a bigger place for their family, so that's a strike against refinancing.
An additional complication: the state of their local housing market. Home prices have been falling in many regions of the country. Homeowners who borrowed with piggyback mortgages may find that even a small drop in home prices wipes out the equity they've built up in their home, says David Wyss, chief economist at Standard & Poor's in New York. For example, if my colleague and his wife found their $328,000 home was appraised at $300,000, the unpaid principal on their loan would be worth more than their property -- making refinancing difficult and costly, if not impossible.
Tom Martin, president of America's Watchdog, a consumer-advocacy group in Washington, D.C., says lenders are being very cautious right now due to current housing-market conditions. Many won't approve refinancings if there's little equity in the home, he says. "The market can easily adjust down 10% next year, particularly in the really hot markets, such as Arizona, Florida, the Washington, D.C. area," he says. "They're saying, 'If we do 100% financing with these deals, there's a good chance next year we're only going to have a loan worth 90 cents on the dollar.' "
And things may not get better soon. Mark Zandi, chief economist at Moody's Economy.com, says he expects the national housing market to decline by 3.5% in 2007. "It's going to be another bad year for housing," he says. "Some markets that saw prices soaring a year ago will see double-digit decline." (Several leading economists agree.)
To get a feel for the local market conditions in my colleague's hometown, I contacted Evan Siegel, owner of American Realty Appraisals in Westfield, N.J. He says there are two comparable homes for sale in Middle*** listed at $329,000 and $349,900. The first started with a list price of $359,900 and has been listed since late June. The second listing has only been on the market for two months. "Most of the markets in this area have stabilized and some have dropped slightly," he says. "A lot more homes are on the market and it's taking longer for things to sell."
OK, say we split the difference and assume my colleague's home is appraised at $339,000. That means they'd have $32,500 in equity, or nearly half the $67,800 (20% down) equity needed to avoid paying private mortgage insurance should they refinance to a single loan -- which is why they opted for the piggyback loan in the first place. Mr. Hanzimanolis of NAMB estimates they'd pay $133 a month in PMI if they refinance their mortgages, leaving them with a savings of just $11 a month until they reach the 20% equity and PMI goes away.
So refinancing both loans into one fixed-rate loan doesn't make sense for my colleague and his wife. But that doesn't mean they're out of options: Fritz Elmendorf, spokesman for the Consumer Bankers Association, suggests they keep their current 30-year fixed-rate loan and refinance the second mortgage.
"It will be easy for them to find a fixed-rate home-equity loan at about 7.5% without any closing costs," he says. He also suggests they consider a variable-rate home-equity line of credit that would allow them to pay down the loan more quickly -- or borrow additional funds as their needs require. "The advantage of the HELOC is that it gives them options for their monthly payment, whether they want to reduce overall interest expense, or have a lower monthly payment," he says.
Presented with these options, my colleague said it seemed clear that refinancing wasn't worth it, but thought paying off the second mortgage with a home-equity line of credit sounded like a good idea.
Are you stuck in a piggyback mortgage or other type of creative home financing that you want, or need, to refinance? What led you to choose the financing you did? Write to me at fiscallyfit@wsj.com, or join me and your fellow readers in a continuing discussion about refinancing mortgages.
Apparently there's a battle of the ***es raging in homes across the country, as men and women disagree over holiday decorations. In response to last week's column, many women wrote in to say they share my love for white lights, while most of the guys said bring on the multicolored carnival. Read on to see a sampling of the letters, and share your own thoughts in my ongoing discussion. (As always, letters have been edited.)
* * *
A 'Piggyback' Mortgage?
By Terri Cullen
From The Wall Street Journal Online
When you write a personal-finance column, being hit up for advice by friends and colleagues comes with the territory. Recently, a colleague asked whether the time was right for his wife and him to refinance their mortgage. Mortgage rates have fallen since they purchased their first home and they wondered whether they might save some money -- and worry -- by refinancing.
Normally, I would have simply directed him to WSJ.com's "Should you refinance?" tool, which calculates whether refinancing to a lower-rate loan makes financial sense once all the closing costs necessary to obtain the new loan are taken into account. But his situation is a bit more complicated. When he and his wife bought their home, they took out a so-called piggyback mortgage.
Talk with Terri
Are you stuck in a piggyback mortgage or other type of creative home financing that you want -- or need -- to refinance? What led you to choose the financing you did? Join me and your fellow readers in an ongoing discussion about refinancing mortgages.
Piggyback mortgages, which stack a smaller home-equity loan or line of credit on top of a primary mortgage, became popular in the late 1990s. These mortgages were the first in a "creative financing" wave that made homes more affordable for homebuyers and helped to fuel the recent boom in the housing market. A piggyback loan is commonly designed as a primary mortgage that covers 80% of the home's cost, paired with a second loan that usually covers 10% to 20% of the remaining cost. (Anything left over is accounted for by the down payment.) Lenders have gotten much more creative with financing options so there are many varieties of piggybacks -- such as 75%/15%/10%, for instance.
The number of homeowners who use piggyback loans to buy their homes is growing: A Wall Street Journal Online/Harris Interactive poll found that 12% of homeowners had piggyback mortgages, up from 10% last year. Why divide up a loan in this way? To help homebuyers avoid paying private mortgage insurance, the pricey coverage lenders demand when homeowners need to borrow more than 80% of the value of a home with a primary mortgage. Typically, PMI costs 0.5% of the loan amount, or roughly $108 a month on a $250,000 mortgage. With a piggyback mortgage, a homeowner isn't borrowing enough with one single loan to trigger the need for PMI.
My colleague could save a little more money by refinancing with an adjustable-rate loan, but doesn't want to risk the rate of an ARM zooming if mortgage rates go up. Given the current condition of the U.S. bond market, which determines most mortgage rates, ARMs with an initial fixed-rate term of five or seven years wouldn't offer a much lower rate, says George Hanzimanolis, president-elect of the National Association of Mortgage Brokers. (He suggests they stick with a fixed-rate loan.)
Another thing my colleague should consider is how long he and his wife intend to live in the home. If it's likely they'll move in less than seven years, it probably doesn't make sense to refinance, since closing costs will eat up much of their upfront savings. The couple does hope to move to a bigger place for their family, so that's a strike against refinancing.
An additional complication: the state of their local housing market. Home prices have been falling in many regions of the country. Homeowners who borrowed with piggyback mortgages may find that even a small drop in home prices wipes out the equity they've built up in their home, says David Wyss, chief economist at Standard & Poor's in New York. For example, if my colleague and his wife found their $328,000 home was appraised at $300,000, the unpaid principal on their loan would be worth more than their property -- making refinancing difficult and costly, if not impossible.
Tom Martin, president of America's Watchdog, a consumer-advocacy group in Washington, D.C., says lenders are being very cautious right now due to current housing-market conditions. Many won't approve refinancings if there's little equity in the home, he says. "The market can easily adjust down 10% next year, particularly in the really hot markets, such as Arizona, Florida, the Washington, D.C. area," he says. "They're saying, 'If we do 100% financing with these deals, there's a good chance next year we're only going to have a loan worth 90 cents on the dollar.' "
And things may not get better soon. Mark Zandi, chief economist at Moody's Economy.com, says he expects the national housing market to decline by 3.5% in 2007. "It's going to be another bad year for housing," he says. "Some markets that saw prices soaring a year ago will see double-digit decline." (Several leading economists agree.)
To get a feel for the local market conditions in my colleague's hometown, I contacted Evan Siegel, owner of American Realty Appraisals in Westfield, N.J. He says there are two comparable homes for sale in Middle*** listed at $329,000 and $349,900. The first started with a list price of $359,900 and has been listed since late June. The second listing has only been on the market for two months. "Most of the markets in this area have stabilized and some have dropped slightly," he says. "A lot more homes are on the market and it's taking longer for things to sell."
OK, say we split the difference and assume my colleague's home is appraised at $339,000. That means they'd have $32,500 in equity, or nearly half the $67,800 (20% down) equity needed to avoid paying private mortgage insurance should they refinance to a single loan -- which is why they opted for the piggyback loan in the first place. Mr. Hanzimanolis of NAMB estimates they'd pay $133 a month in PMI if they refinance their mortgages, leaving them with a savings of just $11 a month until they reach the 20% equity and PMI goes away.
So refinancing both loans into one fixed-rate loan doesn't make sense for my colleague and his wife. But that doesn't mean they're out of options: Fritz Elmendorf, spokesman for the Consumer Bankers Association, suggests they keep their current 30-year fixed-rate loan and refinance the second mortgage.
"It will be easy for them to find a fixed-rate home-equity loan at about 7.5% without any closing costs," he says. He also suggests they consider a variable-rate home-equity line of credit that would allow them to pay down the loan more quickly -- or borrow additional funds as their needs require. "The advantage of the HELOC is that it gives them options for their monthly payment, whether they want to reduce overall interest expense, or have a lower monthly payment," he says.
Presented with these options, my colleague said it seemed clear that refinancing wasn't worth it, but thought paying off the second mortgage with a home-equity line of credit sounded like a good idea.
Are you stuck in a piggyback mortgage or other type of creative home financing that you want, or need, to refinance? What led you to choose the financing you did? Write to me at fiscallyfit@wsj.com, or join me and your fellow readers in a continuing discussion about refinancing mortgages.
Apparently there's a battle of the ***es raging in homes across the country, as men and women disagree over holiday decorations. In response to last week's column, many women wrote in to say they share my love for white lights, while most of the guys said bring on the multicolored carnival. Read on to see a sampling of the letters, and share your own thoughts in my ongoing discussion. (As always, letters have been edited.)
* * *