Death and Taxes Blog

I know predictions are a fool's game, but I can't help but toot my own horn about this October 2005 post:

The Risky Business of Crazy Mortgages

Cybele Weisser has a scary article entitled "Crazy Loans: Is This How the Boom Ends?" in this month's Money magazine -- it's available online here. Speaking anecdotally, I've definitely noticed more and more homebuyers who are stretching to buy homes via "creative" financing. As Ms. Weisser points out, "crazy loans" could have a huge effect on those who hold them and on the economy as a whole.

What does Ms. Weisser mean by "crazy loans"? A few of the major types:

-Interest-only: For a set period of time at the beginning of the loan, the borrower pays only interest.

-Long-term fixed: Instead of the typical 30-year fixed mortgage, the mortgage is for 40 or 50 (or more) years.

-100% financed: The principal of the mortgage equals the purchase price (using one mortgage or a primary mortgage with a home equity line of credit).

-Flex-payment ARM: The borrower chooses what to pay each month, and may even pay less than the interest due (in which case this amount is added to principal).

If home prices continue to increase and interest rates stay low, most of these borrowers will be OK. But what if home prices don't increase and/or interest rates begin to rise?

On December 22nd, 2007, this letter to the editor was published by the Chicago Tribune. The letter is interesting in part because it challenges the typical reportage that arises in the wake of a financial scandal. That typical reportage involves dividing the players into villains and victims, while making sure that Mr. and Mrs. Joe Public always fall into the second category.

I wanted to give a little attention to this sentence: "Did these stupid people get no sound advice from anyone, not even their closing lawyer?" I used to practice in the area of real estate law, handling residential closings. I stopped a year or so ago, although I occasionally handle real estate deals if they are connected to probate (my main area of practice).

One of the reasons I stopped practicing in the area of real estate is that it didn't make financial sense for me. The market for real estate lawyers is such that you can charge about $400 to represent someone in a purchase or sale. And, as a solo practitioner, I could spend 15 or 20 hours on a single matter.

If you go to buy a house in Illinois, your team of professionals consists of:

1. a real estate broker, who is being paid a percentage of the selling price for the home;
2. a mortgage broker, who is being paid a percentage of the amount of your loan; and
3. an attorney.

So, who is in your corner? Not the brokers -- they have a clear conflict of interest. And not the attorney, because he or she is usually being paid only a minimum amount to sit with you at the closing and show you where to sign. Some attorneys have tried to charge hourly rates for closings, providing full service and emphasizing the importance of the transaction. My understanding is that many of these attorneys haven't been successful.

I'm not trying to be vindictive, and I'm not trying to suggest that the lending crisis is somehow payback because the American public as a whole decided it didn't need thorough, professional attorneys to handle their real estate purchases. Rather, I'm suggesting that someone who is not conflicted needs to do the analysis as to whether the recommended purchase price + mortgage are the appropriate purchase price + mortgage. That "someone" can be the buyer (crunching his or her own numbers), a fee-only financial planner, or an attorney. Unfortunately, if you aren't sophisticated enough to crunch your own numbers, you aren't going to be sophisticated enough to hire a financial planner or attorney to do it for you. And the unsophisticated folks wind up in default. Which wouldn't be so bad for the rest of us, basking in the glow of our 5.25% 30-year fixed mortgages, except that we now have to pay to bail out the defaulters.

One of the first articles I ever posted on the internet (which I initially wrote for my client newsletter) talks about biweekly payment programs offered by lenders. (The article is here, as a pdf -- the part about biweekly payment programs starts in the middle of page 3.) My conclusion is that paying 1/2 of your monthly mortgage payment every two weeks (for a total of 13 full mortgage payments per year instead of 12) is a great idea, but being forced to pay an enrollment fee to do so is a pretty bad idea. That's because you can make these payments manually or automatically (via billpay), at little or no cost.

Evidently these biweekly payment programs are still being offered, so somebody must be taking the bait. CitiMortgage just sent me a mailing offering to set up biweekly payments for me via The Biweekly Advantage Plan -- I even get a "free" iPod Shuffle! You'll notice I put "free" in quotes, because you actually have to pay $375.00 to get the iPod (which retails for around $80.00).

Does it strike anyone as smart to pay $375 in order to (a) get something you can buy for $80 and (b) have something done for you that you can do for free?

Every time I take part in a real estate closing, I'm reminded of why I rarely work in this area anymore.  Yesterday was no exception. 

An estate I represent was selling a residence in Chicago.  The closing was scheduled to begin at 1:00 p.m.  The closing ended at about 5:30 p.m.  The reason why nine people -- three attorneys, three clients, two realtors, a closing agent from First American Title -- got to spend their afternoon at a title company? The lender (Countrywide Home Loans). 

Countrywide sent a packet of loan documents to the title company, for signing by the buyers.  The buyers signed, and the title company faxed the executed documents back to the lender.  The lender's response?  Sending more documents.  And more documents.  And more documents. 

Then, once the lender had received every document they could possibly want?  Crickets -- the lender stopped returning the title company's calls.

Everything was eventually resolved.  I realize I'm tilting at windmills here -- clients choose lenders based on their interest rates, not their service on the closing day -- but it's a real annoyance.

In the Chicago area, there's always a rush to close real estate transactions on (or near) the last day of the month.  This rush is usually explained as resulting from the requirement that a buyer prepay interest for the month of closing.  At first glance, this makes sense -- isn't it better to close on the 31st of the month and pay one day of interest than to close on the 1st and pay thirty days of interest?  But let's look a little deeper. 

First, some background.

Mortgages are paid in arrears.  So, if you close on your new house on July 15, your first mortgage payment won't be due until September 1.  Your September 1 mortgage payment will include interest for the month of August.  Your October 1 mortgage payment will include interest for the month of September.  And so on.

"Prepaid interest" results from the fact that, under the above fact scenario, you haven't paid any interest for the period from July 15 to July 31.  You have to prepay that interest at the July 15 closing. 

However, what do you really lose by not closing at the end of a month?  Not much, really.  If you close on August 1 instead of July 31, you are paying your August interest on August 1 instead of on September 1.  There's a time value of money advantage to making this payment later, but it's fairly small -- what's the value of holding on to, say, $1,000 for an extra month?

Furthermore, consider that, if you close on August 1 instead of July 31, you won't have to make your first mortgage payment until October 1.  If your monthly payment is more than the amount of prepaid interest, it might make more financial sense to work it this way.

It's also important to think about what you gain (in a non-financial sense) by closing at some time other than the end of the month.  Most title companies are a madhouse at the end of the month -- your closing could very well be delayed.  By contrast, there tend to be very few closings scheduled at the beginning of the month, which makes for a far more pleasant experience for buyers (and their attorneys).

Thanks to the posters at the ISBA Transactional Law Discussion Group for bringing this issue to my attention.

Yesterday I presented a report card for lenders involved in two recent closings that I handled.  You may agree (or disagree) with the letter grades I gave, but the better question is: how can I use this information?

My main intention in grading lenders is to let people know that there's more to a lender than the interest rate it offers.  I think there's a tendency to believe that loans (and lenders) are fungible, and that a 5.5% loan is always better than a 5.6% loan.  That isn't necessarily so.

But part of my problem is that I am very affected by a lender's competence or lack thereof.  It can mean the difference between 1 or 2 hours spent at a closing and 5 or 6 hours spent at a closing.  Does that mean you should choose your lender to make your attorney happy?  Of course not.  Even the worst closing day may be worth it if your savings (in terms of monthly payments) are substantial. 

I think lender service (or lack thereof) is important for two reasons:

1. So that you can accurately assess the worst case scenario, and decide if you can live with it.  The 5 hour closing I recently attended was made somewhat easier because the sellers had already moved in to their new home.  But what if this hadn't been the case?  What if you were trying to sell your house in the morning and buy another house in the afternoon?  What if the funds for your purchase aren't ready in the afternoon?  Do you have to cancel movers? Do you have a place to store your stuff?  What about your family?  Bad lenders can create logistical nightmares.

2. So that you can ask tough questions of your lender before you hire them.  Questions like:

-will I work with one dedicated individual to get my loan approved?

-will one of your representatives be at the closing?

-if not, will a dedicated person be available by phone at the closing?  what is that person's name?

-when you send you loan documents to the closing, do you also send a check for the loan proceeds? if not (i.e. if you send the proceeds by wire), when is the wire sent? 

A few months ago, I wrote this open letter to lenders and mortgage brokers, explaining what I (as a buyer's attorney) need from them. 

Evidently some people didn't get the letter, as I spent much of the day on Monday (8:30 a.m. to approximately 1:30 p.m.) at what should have been a fairly simple real estate closing.  The delay was the direct result of my client's lender, Lending Tree.  For whatever reason, neither the loan proceeds nor the loan documents were at the title company when the closing began.  In fact, the loan documents didn't arrive until about 11:00 a.m, even though the closing had been confirmed well in advance, and even though the buyer and I had both asked the lender (repeatedly) if they needed anything else to close the deal (they said no).  Lending Tree offered some excuses for this delay -- computer problems, the fact that they are located on the West Coast -- but excuses don't cut it.  The buyer, the sellers, the attorneys, and the title company personnel were all inconvenienced by the lender's failure to fulfill their obligations.  Grade for this transaction: F

Another closing (held yesterday) had a far better result, because of some good work by my client's lender, Rose Mortgage.   Weeks prior to closing, they assigned a closing specialist to my client, and she did a great job of making herself available to answer questions.  There were a couple of last-minute glitches, but the closing was completed in less than 2 hours.  Grade for this transaction: B+

Slate's Daniel Gross has an interesting article about "why banks are so afraid to foreclose on you."  The article explores a number of reasons why this is so, but this quote in particular stood out to me:

"[T]he mortgage industry is working hard to avoid coming down too hard on overextended borrowers. It has... everything to do with a healthy corporate regard for self-interest, stock value, and public image."

The mention of "public image" is interesting in light of an experience I had recently. 

I am assisting in the administration of a decedent's estate -- she was survived by two adult sons (her only heirs).  After the decedent died, the lender (let's call it "The Bank That Works") decided to foreclose.  That was the lender's right under the mortgage documents, but it struck me and the two sons as unnecessary -- they were making the monthly payments on the loan (and had been since their mother's death), and were getting ready to pay it off entirely. 

I was then contacted by the bank's attorney, who told me that he was preparing to file a claim against the decedent's estate.  I indicated that this wouldn't be necessary, and asked him to hold off on doing so; after all, the bank had six months in which to file a claim, and the estate (and the bank) might be able to avoid court costs and attorney's fees if an out-of-court resolution could be reached.  The attorney agreed to wait on the filing of a claim.

The claim arrived in the mail about two weeks later.  (When I asked him about it, the attorney said he didn't recall our conversation, and stated that he had too many open files to be able to keep track of them all.)  The claim included $500 for attorney's fees.  When I told the attorney that my clients objected to paying these fees (since an out-of-court resolution could easily have been reached), the bank's attorney told me we could fight the fees in court, but that he would bill the estate for additional fees at a rate of over $200 per hour.  Frustrated, my clients then agreed to allow the claim, at which point the attorney tried to tack on an additional $200 in fees for speaking with me on the phone about this matter.

Needless to say, "The Bank That Works" shouldn't expect to get any business from me or from the decedent's sons in the future.