Economics

How Can You Believe in the American Dream Anymore When People Have to Pay Cash for Their Vacation Condos?

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In a recent USA Today story, Julie Schmit makes the case that lenders have overreacted to the high forfeiture rates of recent years, becoming unnecessarily nitpicky in vetting mortgage applicants. But in her eagerness to show that eminently qualified applicants are being turned away, she forgets that a story of this sort requires sympathetic victims. Her main example is Bob and Janet Zych of Omaha, who "have excellent credit with scores that top 800, life-long careers and investment portfolios that have set them up for a comfortable retirement." The Zychs gave up on obtaining a mortgage "after faxing a ream of paper" about their financial condition. They were so "fed up" with lenders' unreasonable demands that they "simply wrote a check for their new, $85,000 vacation condo in Phoenix." The horror.

It turns out the vacation condo is the Zychs' fifth home, in addition to their primary residence and "three rental properties" that "produce a positive cash flow" (on top of Bob's salary as a manager for Mohawk Industries and, presumably, Janet's salary from her "life-long career."). Schmit says "the Zychs were hamstrung by lenders' concerns about their previous investments." The lenders thought "they had too many properties, even though their finances were solid" (possibly a reasonable concern, given the continued downward trajectory of home prices). The bottom line, according to Bob: "How would anybody ever get a loan if we can't get a loan?"

From Schmit's account, it is not at all clear that the Zychs couldn't get a loan. It sounds more like they decided getting  loan was not worth the trouble, especially since they happened to have $85,000 lying around to purchase the condo outright. As other examples cited by Schmit show, people do still obtain mortgages, even people with finances far shakier than the Zychs', although they may have to jump through more hoops or make a bigger down payment than used to be the case. And while it may be true, as Schmit says, that many homeowners "can't take advantage of some of the lowest interest rates in 50 years because they don't have enough equity in their homes to refinance," I know a couple not nearly as well-off as the Zychs who recently refinanced their mortgage at a lower rate even after they had missed a couple of payments and applied for a loan modification—from the same bank. So it may not be true that the Zychs' difficulties (such as they were) mean any mortgage applicant with a lower credit rating or less money in the bank might as well give up.

Schmit notes that "fewer than 1.3% of loans originated in 2009 that were resold to Freddie Mac and Fannie Mae went into default after 18 months," which was "down from more than 22% default rates for 2007 loans and about 3% default rates in 2002." At a certain point, presumably, driving down default rates begins to cost lenders money because it means forgoing too much revenue from rejected applicants who don't quite meet the new standards but would have kept up with their payments. I have no idea where that sweet spot is, but I would imagine that profit-driven businesses would be highly motivated to figure it out.