50 year mortgages

Aug 20, 2006

Just 600 monthly payments, and the house is all yours.

Recoil, if you will, at the thought of a 50-year mortgage, but it's here.

A California mortgage company began to offer the loans in March to considerable media hoopla and touted them as a lifeline to consumers trying to squeeze into that state's ultra-pricey housing market.

The loans haven't caught on in a huge way, though a handful of lenders now offer them, and they are available nationwide.

Critics dismiss them as a poor choice or a marketing gimmick. But some in the industry say 50-year mortgages are finding their niche, and it may be just a matter of time before they are common. "We felt the loan would fill a need for some people to keep their payments lower," said Alex Diaz Jr., vice president of Statewide Bancorp, a mortgage company in Rancho Cucamonga, Calif.

In the second quarter Statewide originated about $92 million in 50-year loans in five states, Diaz said. That's a minuscule portion of the industry's $700 billion in all mortgage originations in the period.

Mostly in California

So far, most of the loans are in California, though a few lenders market them nationally to subprime borrowers who have spotty credit histories and often pay higher interest rates.

"This is not a product that has been taking the world by storm," said Doug Duncan, chief economist for the Mortgage Bankers Association, a trade group in Washington, D.C. "From a statistical perspective they are practically nonexistent."

Megalenders such as Wells Fargo and Countrywide say they have no plans to make 50-year loans.

And they say the loans will not get traction until they become widely sold in the secondary market, as most mainstream mortgages are. Mortgage financiers Fannie Mae and Bear, Stearns & Co. said recently that they have no plans to buy the 50-year mortgages from lenders.

Just give them time, say some in the industry.

Many are ARMs

Most of the 50-year loans, so far, aren't really "50-year loans," fixed-rate products for which the borrower would make a set payment every month for a half-century.

Instead they are adjustable-rate mortgages, or ARMs, in which the monthly payments remain the same for a certain period, then "reset" and fluctuate with prevailing interest rates, amortized over a 50-year term.

Statewide originally offered them as five-year ARMs, but now also packages the loans as two-, seven- and 10-year ARMs. Recently it began to make 50-year, fixed-rate loans, Diaz said.

"That is for somebody who is looking for the safety of knowing that the payments will never change," Diaz said. "We haven't done many of those. We're sticking with our original thought, that people who take the 50-year loan aren't looking for a long-term solution" and will sell their homes within a few years.

He said Statewide saw the loans as an alternative to payment-option ARMs, which allow borrowers, within limits, to choose how large a payment they will make, repaying only the interest or a smaller monthly amount.

Those loans have been wildly popular in areas such as California, where home prices have climbed dramatically. However, payment-option ARMs carry the risk that, by deferring payments, borrowers will end up with "negative amortization." When the unpaid interest is added to the principal, the borrower owes more than he did at the beginning of the loan.

Diaz also says the 50-year loans are a better bet than the similarly popular interest-only loans because, with the former, the borrower at least builds some equity.

Not worth it?

But critics abound.

"They're asinine," said Jack M. Guttentag, professor of finance emeritus at the Wharton School at the University of Pennsylvania, who now runs a mortgage-information Web site.

"I tell people to ignore them," Guttentag said.

"Given the wide availability of interest-only loans, going out beyond 30 years seems senseless. You are paying more for the loan and getting a very small reduction in the payment."

At the very least, ARMs carry a risk of resetting at an unaffordably high rate, which should be a concern for borrowers who are only marginally able to buy, critics say.

They say the loans do not cut the monthly bill by much. And the interest paid over the life of the loan is eye-popping.

For example, with a 30-year loan for $275,000 set up as a five-year ARM at an interest rate of 6.58 percent, the monthly payment would be $1,752.68, said Keith Gumbinger, vice president of HSH Associates, a mortgage-industry publisher in Pompton Plains, N.J.

Gumbinger assumes that such an ARM in a 50-year form would have an interest rate a quarter point higher.

So, at 6.83 percent, the monthly payment would be about $1,618.95, a monthly cash-flow savings of about $133.73, he said.

But the "gulp" comes in the interest paid over the term of the loan. For the 30-year loan it would be $87,826.66, he said. For the 50-year it would be about $93,306.32.

The balance after five years would be about $257,666 (with $17,334.20 in equity) for the 30-year loan versus $271,169.23 (with $3,830.77 in equity) for the 50-year loan.

"So the $133 cash-flow improvement ($8,023.80 over five years) has cost you an additional $5,479.66 in interest, leaving a `real' benefit of just $2,544 and change.

"That $2,544 benefit has cost you $13,503.43 in equity you haven't built," Gumbinger said.

But Diaz and others in the mortgage industry argue that given the changes in consumer behavior, the term of the loan has, in some ways, become irrelevant. Homeowners have come to expect an ongoing cycle of refinancing or moving and often do not keep loans longer than a few years.

"In California, it is not common to meet somebody who has lived in a house for 30 years," Diaz said. "Maybe in my parents' generation that was so, but I don't think the marketplace today does that."

Long-term mortgages also may be a bellwether of changing attitudes about credit, say consumer debt experts, who add that holding a mortgage until the house is paid for is a phenomenon that went out at the turn of this century.

Swapping out loans

John and Carolyn Roberts, for example, planned to renovate the Arlington Heights, Ill., house they bought in 2004 with an interest-only loan at 100 percent of the home's value. Renovation costs exceeded their expectations, however, and in March 2005, they switched from the interest-only loan to a 40-year loan with a rate that was fixed for two years and had smaller monthly payments.

"We went to a 40 to keep cash flow going," Roberts said. "It was a bridge loan."

They finished the renovation in January, and swapped the 40-year for a 30-year, fixed-rate mortgage.

"The mortgage market has changed drastically since I was a young man, when savings and loans would make the loan and collect principal and interest," said Roberts, who is 58.

"In this day and age, they are selling the product and reselling it. Most homeowners never pay it off anyway."

Driven by refinancing

Part of that attitude change is due to the refinancing whirlwind fueled by low interest rates, said Robert Manning, research professor of consumer financial services at the Rochester Institute of Technology.

But it's also a sign of a generational shift, he said.

"There is so much more mobility in the job market now," Manning said. "It used to be you would get your reward by hanging in there for five to 10 years, so you were place-specific.

"But a lot of young people today know that the only way to get a bump in their salary is to move on to a new job," Manning said.

"They are constantly in the job market, they have no idea how long they are going to be in one place and that's why ARMs are so appealing to them."

And consumers increasingly want to leverage their income into as many places as possible: homes, credit card debt, student loans, Gumbinger said.

There are lots of ways to go about it. In recent years lenders have opened the door to homeownership by rolling out a buffet of loan types that start with comparatively low payments.

To make those monthly hits more palatable, lenders lengthened terms. About a year ago 40-year loans became widely available almost immediately after Fannie Mae agreed to buy them from lenders, a seal of approval for mortgages.

"Loans with 40-year terms now comprise about 5 percent of the marketplace," Gumbinger said. "That gets them up to sizable-niche status."

And now, there are the 50s, which are so new the industry has not yet developed a way to track their popularity.


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