Why Isn't Everyone Refinancing Their Mortgage Now?

September 7, 2010 (FreeRateUpdate.com) – As lenders continue to offer ultra-low mortgage rates, refinancing home loans is now in vogue. Rates have remained steady for the second week at 4.00 percent on fixed-rate 30 year mortgages and 3.625 fixed-rate 15 year mortgages. But, popularity doesn’t necessarily make refinancing the best option for everyone.

Mortgage loan applications received a noticeable bump in the last week of August, according to the Mortgage Banks Association, primarily due to mortgage refinance applications that accounted for 82.4 percent of all applications received. Mortgage refinances are an important option, especially for homeowners who are unable to sell their homes in the current market. July was one of the bleakest months of the year as home sales dropped 27 percent from the previous month, which is 1.43 million less units sold than in June. The National Association of Realtors will provide data for August home sales September 23. Nevertheless, home sellers should not expect positive news. NAR chief economist, Lawrence Yun, says, “…the recovery looks to be a long process. Home buyers over the past year got a great deal, and buyers for the balance of this year have an edge over sellers.” He adds that sales could pick-up, that is, “…provided the economy consistently adds jobs.”

Despite market woes, the federal government is making great strides in mortgage refinances by offering two hefty programs to help homeowners refinance their loans: HARP and the FHA-Short Refinance program. President Barrack Obama created the Home Affordable Refinance Program (HARP) last year, which helps homeowners refinance their underwater mortgages. This program does not reduce principal amount owed. But, it does permit homeowners to take advantage of historically low mortgage rates. HARP benefits interest-only mortgage borrowers, adjustable rate mortgage borrowers, and balloon payment borrowers because it allows them to reduce the amount of interest they would pay over the life of the loan.

Tuesday, the Obama administration launched a new program, the FHA-Short Refinance, which will reduce mortgage balances for homeowners with negative equity. The Federal Housing Administration offers non-FHA borrowers who are underwater on their loans and current on payments the opportunity to refinance into an FHA Short Refinance option. In order for prospective borrowers to qualify, lenders must agree to write off at least 10 percent of the unpaid principal of the mortgage, which should bring the homeowner’s combined loan-to-value (CLTV) ratio less than 115 percent. In addition to meeting standard FHA underwriting requirements, occupying the property as a primary residence, and maintaining a credit score equal to or better than 500, to qualify for the FHA Short Refinance, homeowners must be in a negative equity position. They must be current on the existing mortgage and the mortgage cannot be an FHA-insured loan.

With such positive incentives, the question is: why isn’t everyone refinancing their mortgages? Despite ultra low rates and creative government programs, stronger economic factors are at play: strict qualification standards, expensive closing costs, increasing job loss, and decreasing property values. The FHA-Short Refinance program, for example, not only enforces rigorous standards, such as strong credit history and steady employment, on borrowers, but it also presumes that lenders are willing to write down the debt owed. Banks would have little incentive to do so, especially as Fannie and Freddie receive additional bailouts. Plus, securitized mortgages are prohibited from reducing mortgage balances without an imminent threat of default.

The expenses involved in a refinance further discourage homeowners. Mortgage refinances typically require the following fees: an application fee between 75 and 300 dollars; an appraisal fee between 150 and 500 dollars; survey costs between 125 and 300 dollars; hazard insurance between 300 and 600 dollars; any legal fees between 75 and 200 dollars; title search and title insurance costs between 450 and 600 dollars; a home inspection fee between 175 and 350 dollars; origination points of 0.7 and 1.0; and mortgage insurance, required of any FHA program. New York is noted as having the most expensive closing costs in the country averaging 5,623 dollars. Texas and Utah follow with 4,708 and 4,605 dollars, respectively. The cheapest states are: Arkansas, 3,007; North Carolina, 3,255; and Iowa 3,261 dollars.

Even if refinances were cheap and a cinch to qualify for, job growth is feeble at best and home values are overinflated. The unemployment rate rose to 9.6 percent, according to the Department of Labor last week. It predicts unemployment to reach 10.1 percent by October, which is the worst employment slump since post-WW II. Charles Evans, Chicago’s Federal Reserve Bank President, agrees and adds that the unemployment level “is likely to remain uncomfortably high for the foreseeable future.” And this only spells more trouble for the housing market. Without a steady income, prospective home buyers cannot qualify for a loan, let alone make monthly mortgage payments. Many estimate that home values will drop another 5 to 20 percent. Some economists believe overvaluation is more likely around 30 percent.

Refinancing is not for everyone. For most, favorable mortgage rates and promising government programs are frivolous compared to the hard reality of the current state of the economy.