Mortgage Modification

Todd Zywiki, professor of law at the George Mason University, wrote a very interesting opinion piece today on the Wall Street Journal on why bankruptcy judges should not be allowed to make changes to mortgage contracts.  Here is an excerpt:

Mortgage modification would indeed provide a windfall for some troubled homeowners — but its costs will be borne by aspiring future homeowners, and by any American who uses credit of any kind, from car loans to credit cards. The ripple effects could further roil America’s consumer credit markets.

In the first place, mortgage costs will rise. If bankruptcy judges can rewrite mortgage loans after they are made, it will increase the risk of mortgage lending at the time they are made. Increased risk increases the overall cost of lending, which in turn will require future borrowers to pay higher interest rates and upfront costs, such as higher down payments and points. This is illustrated by a recent example: In 2005, Congress eliminated the power of bankruptcy judges to modify auto loans. A recent staff report by the Federal Reserve Bank of New York estimated a 265 basis-point reduction on average in auto loan terms as a result of the reform.

Congress is considering legislation that would allow bankruptcy judges the ability to change mortgage terms such as interest rates and and amount owed.

To Impound or Not to Impound?

Recently I received a question from a client asking whether they should set up an impound account for their taxes and insurance. Impound is the same thing is escrowing so don’t be confused. Here is what I told him:

“As a lender we can set it up so that you pay your taxes every month (total taxes due per year divided into 12 equal payments). We hold that money and then when it is due we forward it to the government. This is the type of loan we have you set up for.

However, if you choose to pay your own taxes then you can certainly do that. However, the lender views this as an added layer of risk and sometimes will bump up the interest rate a bit to cover this risk. The risk being that if you’re not good with setting aside money every month for the semi-annual tax payment you’ll be late on your taxes or you stop making mortgage payments to pay taxes. Not paying your taxes over a period of time means the government then can attach a tax lien to the house. We are lending with the assumption that we’re the first lien holder but the government has power to get ahead of us. Hence if we have to sell the house to recover the loan then the government gets it taxes first before we can get our money to cover the loan.

I always recommend that clients set up an impound account with the lender and pay taxes on a monthly basis as part of the mortgage payment.

The same idea applies to your monthly homeowners insurance payment.”

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