As discussed on December 31, 2008 many homeowners attempting to lower their mortgage rate apply for a refinance, only to discover that they do not qualify for the “low advertised rate” (Few May Benefit From Lower Mortgage Rates).

Unless a borrower has perfect credit (at least a 720 FICO score), adequate income (debt ratio of 32% or less) and substantial equity in the home (loan to value of 75% or less), the rate will be higher due to adders.  Adders are fees imposed by Fannie and Freddie if the applicant does not fit into the little box of a perfect borrower.  Adders are imposed for higher loan to value, lower credit scores and cash out refinances.  The adders can easily amount to 2% of the loan amount, or $2,000 on a $100,000 loan.   If a borrower is applying for cash out with a FICO score below 680 many lenders will turn the loan down.

This is the reality of the mortgage market today.  Many borrowers applying for a refinance with visions of a 4.875% rate and a payment reduction are finding out that they do not qualify.   There is much in the news about the “mortgage refinance boom”.   Expect to see stories in a month or two about how few borrowers actually benefited from the lower rates.

The stories of how few borrowers actually benefit from the lower rates did not take long to be noticed.

Rates Fall, But Refinancings Are Limited – Wall Street Journal

Interest rates on fixed-rate mortgage loans for prime borrowers have fallen to below 5%, the lowest level since the 1950s, triggering a wave of mortgage-loan inquiries from borrowers eager to refinance. But lenders and mortgage companies say that as many as half of the people who want to refinance can’t meet the credit hurdles and won’t get approved.

Only about a third of U.S. mortgage debt outstanding is likely to qualify for refinancing, said Doug Duncan, chief economist of Fannie Mae. Nearly 70% of borrowers don’t make the cut, he said, most often because their credit isn’t good enough or they don’t have sufficient home equity. A significant number of homeowners owe more than the current value of their homes, a situation sometimes known as being “under water.” Others can’t profitably refinance, often because they hold jumbo mortgages, those above the $625,000 limit for loans that can be bought or guaranteed by Fannie Mae or Freddie Mac in the highest-cost areas.

Since December 31st when I warned that only the best borrowers would be getting approved, rates have continued to decline.  The best borrower can now obtain a par rate of 4.5%.  On an after tax basis, mortgage money  now costs around 3%.  (I remember when savings bonds used to pay 6%.)  The good news is that for those who handled their financial affairs properly, the reward is the lowest mortgage rate ever.  The bad news is that your home has crashed in value, your stock retirement account is 40% lower and your hard earned savings yield zero interest if you prefer to invest in government treasuries.   On my scoreboard, we are all losers here, regardless of lower mortgage rates.

Borrowers Who Take Cash Out On Refinances Are Not Spending The Money

Mortgage refinances being approved show a pronounced borrower preference for frugality.  Many borrowers refinancing are doing so only to lower their payments, not to take cash out.  Those taking cash are mostly paying off other high rate debt or putting the money into savings.   This is not surprising since an A+ borrower does not happen by accident – they are frugal by nature and do not run up large amount of debt for frivolous reasons.  Those most inclined to maximize cash out and immediately spend the proceeds are largely no longer qualified for loan approval, either because of income, credit or equity restrictions.

Fed’s Efforts Futile

The Federal Reserve has spent hundreds of billions of taxpayers’ dollars buying mortgage backed securities to artificially suppress mortgage rates.  If the Fed’s intention was to spur more debt and spending by consumers, they have largely wasted their time and our money.   See Fed’s Asset Purchases Continue To Expand.