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Creative home financing
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June 3, 1999: 6:01 p.m. ET
Unusual mortgages serve special needs, but they're not for faint of heart
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NEW YORK - A 30-year mortgage is a 30-year mortgage, right?
Not according to some lenders. Though home loans look more and more alike these days regardless of where you shop, not all offerings taste like chicken.
Some brokerage houses, mortgage companies and credit unions offer loans that meet specific needs, and experts say experienced consumers can benefit by seeking them out.
"For people that are buying for the first time, I don't normally recommend that," said Rick Harper, director of housing at the Consumer Credit Counseling Service of San Francisco. "Today, people should be looking for a 30-year fixed, and first-time homeowners have enough trouble with the process understanding everything."
"But if you're not a first-time buyer or you know you're only going to be in an area for three or five years and then you're out of there . . . that's acceptable," he adds. "They need to know about these 'creative' types of financing."
Choices beyond plain vanilla plans
Loans come in many shapes and sizes. Some allow a borrower to put little or even no money down in exchange for getting more than one mortgage on the property or paying a higher interest rate. Others allow people to pledge a certain amount of their assets in lieu of actually cashing them out and putting the money toward their home purchases.
But all of them go against the 1990s trend toward lending uniformity that has been fueled by the so-called secondary market.
"Why is there so much standardization in the industry? There's a very simple answer for that -- Freddie Mac and Fannie Mae," says Harper.
The two agencies buy loans from lenders, and either hold them in their portfolios or package them into bonds called mortgage-backed securities that are sold to Wall Street investors. To protect themselves from risk inherent in the process, they set underwriting standards that the loans they buy have to meet.
The process replenishes lender funds so they can make more loans. But it also means that a huge New York-based conglomerate and a small bank in White River Junction, Vt. are essentially offering the same product.
A few lenders break the mold
Against that backdrop, some companies try to compete with specialized mortgages. One such offering comes from Fidelity Brokerages Services Inc., a division of the Boston-based mutual fund and financial services firm Fidelity Investments, and GMAC Mortgage Corp., the Horsham, Pa.-based home financing arm of General Motors Corp.
The Fidelity Pledged Asset Program allows its brokerage customers to use stocks, bonds or other assets as an unusual kind of substitute down payment. Instead of having to sell those assets to raise cash, they pledge a percentage of them to the mortgage company and obtain a loan for as much as the full value of the home.
"If a customer wants to buy a $200,000 home, the first thing they would do is have a conversation with GMAC Mortgage and GMAC Mortgage would help them determine what loan program is appropriate for them," said Sara Adelizzi, vice president of Fidelity Brokerage Services.
"If they choose a pledge program, GMAC will tell the customer about the down payment requirement -- in most cases 20 percent to avoid mortgage insurance -- and that's $40,000."
A customer would then talk to Fidelity and find out what percentage of assets can be borrowed against "on margin." Margin loans allow people to borrow up to 50 percent of the value of their portfolios to buy more shares, bonds or other financial investments.
The percentage of their overall assets they are allowed to borrow against depends on the composition of the portfolio. So, for example, someone with all risky stocks usually would be able to borrow less than someone with a lot of conservative bonds or mutual funds.
If market falls, margin calls may hurt
Traditional margin agreements require customers to pay interest on the money loaned, but pledged asset borrowers don't.
Someone with an $80,000 portfolio could therefore pledge $40,000 to Fidelity, get a $200,000 mortgage from GMAC and pay only for the added principal and interest costs of borrowing the larger amount rather than $160,000. Because investments in the portfolio would have more time to appreciate and borrowers wouldn't have to pay capital gains taxes usually attached to asset liquidations, a borrower could make out well in the transaction.
"As long as the customer has more than $40,000 available to borrow, they're good to go with this loan," Adelizzi says.
Still, there's no guarantee the value of the portfolio backing the loan will rise. A borrower could end up getting a margin call or a request from Fidelity to deposit more cash or stock into the account to keep the pledged amount from exceeding the available borrowing limit. Otherwise, Fidelity would be authorized to get the money through harsher means.
If the $80,000 portfolio dropped to $30,000 in value because of a severe market drop, for instance, Fidelity could liquidate the securities in the account and the borrower would still owe the company $10,000. That wouldn't automatically jeopardize the customer's home because GMAC wouldn't modify the loan or try to foreclose as long as the person kept making payments. But it would mean he'd owe money on more than just the mortgage, increasing the chances of default.
Market shy? Try C.O.D.s
Borrowers who want to avoid market risk but like the idea of pledging money rather than handing it over can find other such loans. At Boeing Employees' Credit Union, members can obtain up to 100 percent financing through a certificate of deposit-based program.
A typical scenario might work like this: Customer A has $3,000 available to buy a $100,000 home. That's only enough to cover closing costs, however, so he needs some help. Under the mortgage guidelines, his $3,000 could fill the required 3 percent "investment" in the property while a $5,000 pledged CD from a family member could take the place of a traditional down payment. The borrower gets a home and the relative earns interest off the CD. Meanwhile, the lender is protected in the event of a default.
"The idea behind the pledged asset is a way most likely for parents to help their kids get into a home without giving up their savings," says Mark Jones, secondary marketing manager at BECU in Tukwila, Wash. "The choice for the parent is to either give their children the $5,000 or, in this case, keep the $5,000 here at the institution."
Other creative loan programs target borrowers who travel and those who need extra help making payments.
A traveler-friendly loan
Tower Federal Credit Union of Laurel, Md. offers what it calls a "Future Primary Residence Loan" (FPRL) because many of its members have civilian or military jobs with the Department of Defense. Those workers often take assignments abroad or in other states for a few years at a time, but want to maintain houses they consider to be their permanent residences in the Baltimore-Washington area that will either remain empty or be rented.
Normally, lenders have to treat such mortgages as investor or non owner-occupied mortgages, making them subject to tougher underwriting guidelines. But Tower Federal charges just one-eighth to one-quarter of a percentage point more for its 30-year fixed FPRL mortgage rates than it does for the conventional equivalent. The credit union is able to do so because it doesn't sell the loans to Fannie Mae and Freddie Mac.
"This one really came from the mobility of some of our members who want to stay in the area" by maintaining both temporary and permanent homes, says Phil Porterfield, the credit union's lending manager. "You end up with two mortgages that way, but basically, they're paying the same market rate and that is unique."
Borrowers don't have to be credit union members or investors to find other types of special mortgages.
Crestar Mortgage Corp., a division of SunTrust Banks Inc. that makes loans around the country through its branches and brokers, offers a pair of programs that cater to people who want to avoid getting jumbo loans (loan amounts of over $240,000) or to reap added tax benefits from borrowing.
The company's "Premier 100" loan resembles an 80/10/10 mortgage, but allows somebody to finance the entire purchase price of a home.
Unlike its more common sibling, which requires a customer to get an 80 percent loan-to-value (LTV) first mortgage, a 10 percent LTV home equity loan and put 10 percent down in cash, this program leaves them with a 70 percent first mortgage and a 30 percent second mortgage.
An alternative to insurance
The rates on both the first and second mortgages are higher with the 70/30s, but the loans can help people with little down payment money get into homes. By keeping the first mortgage below 80 percent LTV, they also eliminate the need for private mortgage insurance (PMI).
"First of all, there has in the past been some negative press, I guess, on MI -- mortgage insurance. This gives the borrower the opportunity to avoid mortgage insurance," says Sue Huber, Crestar's senior vice president of secondary marketing.
"Another reason is that if the borrower were to take a conforming first mortgage up to $240,000 and then a second mortgage going higher than that, he wouldn't have to pay jumbo pricing on that. He could just pay the conforming price."
People with a little more money can play with the numbers to get a more favorable deal, too. Somebody who puts at least 5 percent down, for example, can get an 80/15/5 loan at much better rates than the Premier 100 offers.
"A lot of times we see a borrower who is the type of person who gets a bonus check or some type of lump sum compensation," Huber says. "They might end up paying off the second mortgage and just end up with a first mortgage at a better rate."
Borrowers who want to maximize their mortgage interest tax deductions can choose Crestar's "Baseline 150" product instead.
The 30-year adjustable rate mortgage, whose payment fluctuates annually based on how rates have changed, allows a borrower to make interest-only payments the first 10 years.
The option can give a consumer a larger tax deduction. Because the mortgage has a low 5 percent lifetime adjustment cap, a borrower who got the 5.75 percent, no-points rate available on May 27 would never pay interest at a rate higher than 10.75.
Those faint of heart, beware
Still, consumer advocates say many of these creative loans require a thorough understanding of financing terms and definitions. They aren't for the faint of heart, and many borrowers may end up sticking to the basics.
Jones of BECU, for one, said he's done only a half-dozen or so of the CD pledged-asset loans since late 1996, when the program became available.
But those with a little know-how can find sweet deals -- if they're willing to spend some extra time searching.
"Looking at some of these really creative vehicles for financing might assist them in their cash flow, and there might turn out to be a good program for them," says Harper of CCCS. "The advantage of owning a home, even if it might necessitate a little bit of a risk," makes these programs worth reviewing. 
-- by Bank Rate Monitor for CNNfn
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