Charge Offs: All is Not Forgiven

Part of what I do as a mortgage originator is review credit reports. I’m often surprised how many consumers think that a debt that has been charged off means that it has been removed from their credit history or “forgiven”. Basically, a charge off is when the creditor is writing the debt off their books for tax purposes, it is not terminating the debt owed by the borrower. Often times, the charge off may turn into a collection or be sold or assigned to a collection agency and therefore, mortgage lenders will view a charge off on a credit report as a collection.

I while ago, “Betty Bellevue” called me to see if she could help her mom obtain a mortgage. A couple years prior, her mom had a car that she “gave back” to the bank. She thought she would only have a “repo” reflected on her credit report and that enough time had passed to where she might qualify for a mortgage. What she didn’t realize is that even though the bank had the car back, she had a “charge off” for the balance of the car loan on her credit and that for purposes of a mortgage, we would treat it as a collection (it would need to be paid off and removed from the credit report).

Distressed home owners with second mortgages may be surprised to find charge offs on their credit report following a short sale. Borrowers are often caught completely off guard by this remaining damaging debt being reflected on their credit report. Depending on how the lender reports the short sale to the credit bureaus, it may be just as detrimental as a foreclosure. If you are considering a short sale or foreclosure, I strongly recommend you find an attorney who specializes in dealing with this type of situation.  Linda Ferrarri has great information on her credit blog about foreclosures and short sales which I highly recommend if you find yourself facing this situation.

A charge off also dramatically impacts credit scores. Once a charge off, or collection is paid, credit scores will initially drop as the credit scoring modules view it as a “new activity” on the borrowers credit. Eventually scores should recover and improve. If you are considering a mortgage and have charge offs or collections, it’s important to discuss how and when you’re going to pay them off (some can be paid at closing which will prevent your scores from tanking during the mortgage process).  

You can obtain a free copy of your credit report at www.annualcreditreport.com.

Washington State’s DFI (Department of Financial Institutions) guide for home owners who are considering a short sale and Foreclosure Help.

Refinancing when you have an existing Second Mortgage or HELOC

When you are refinancing your primary mortgage and you have an existing second mortgage or HELOC (home equity line of credit), the new lender will require to stay in “first lien position”. This boils down to who has first dibs on a property in the event of a foreclosure. Lien position is determined by the date the mortgage was recorded. When you refinance your first mortgage and you have an existing second mortgage, the new mortgage will have a recording date that is after the existing second mortgage. Technically, that would put the second mortgage or HELOC in “first lien” position, which would not be allowed with the new lender.

What are your options when you have a second mortgage and want to refinance? NOTE: please review your options with your mortgage professional before you take any action as there may be certain procedures that need to be followed in order to have a successful refinance. 

  1. Pay off and close the second mortgage with your own assets.
  2. Pay off and close the second mortgage with the refinance.  
  3. Restructure the mortgages with a simultaneous new first and new second mortgage. (Yes, piggy back second mortgages have returned).
  4. Request the second mortgage subordinate their lien position with the new first mortgage. 

Pay off and close the second mortgage with your own assets. This seems like a pretty straight forward solution assuming you (a) have the additional assets and (b) this is how you want to use those assets. Even if you have a “zero balance” on your HELOC, the lender may have to consider the full line of credit into your debt to income ratios (as if you have maxed out your credit line). If you do select this option, please do consult your mortgage originator.

Pay off and close the second mortgage with funds from the refinance. This may work assuming you have enough home equity to increase your loan amount to include the second mortgage with your refinance. If you obtained the second mortgage after you purchased your home, including it in the refinance creates a “cash out refinance” which has different guidelines and loan to value restrictions than a “rate term refinance”. If you are considering a HARP (Home Affordable Refinance Program) refinance, the second mortgage cannot be included in the refinance regardless of when it was acquired.

Restructure your mortgages with a new first and second mortgage (piggy back). Lenders are offering piggy back second mortgages again. If you have enough home equity, this may be an option to consider. The lenders I work with currently offer up to an combined maximum loan to value of 85% and you must have a 720 credit score or higher.

Request the second mortgage subordinate their lien position. If the above options are not available or appealing to you, the new lender will require that the second mortgage (or heloc) subordinate their lien position. This isn’t something that the second mortgage is required to do – it is up to the second mortgage lien holder IF they will allow the subordination to take place. With a subordination, the second mortgage still exist and the terms will remain the same (unless the second mortgage requires adjustments to the credit line).

This process generally does not take place until towards the end of the refinance process, when there is a loan approval with the new first mortgage, often times including an appraisal. The request is submitted to the second mortgage, often with a fee ranging from $100 – $300, for review. I have seen subordination request approved with no issues, approved with the HELOC being required to be paid down with the credit line reduced or closed and sometimes subordination request are not approved. It’s one of those situations where “we won’t know until we get there”.  Worse case scenario, a home owner could be out their deposits for the appraisal and request for subordination fees. 

If a home owner is refinancing with a Home Affordable Refi (HARP 2) and requiring a subordination, assuming their appraisal is waived, if the second lien holder denies the subordination, they’ve probably only lost their request for subordination fee (and time). It’s also possible that the second lien holder may require an appraisal to process the subordination even though the first mortgage (new HARP refi) is not requiring one.

I’m hoping that second mortgages will be more flexible, as are private mortgage insurance companies, with HARP 2 and allow more subordinations without appraisals. It only makes sense to allow the home owner to reduce their monthly payments which reduces the chance of foreclosure. However, banks don’t always do what is “common sense”. If you qualify for a HARP refi, and you do not have a waived appraisal during this phase, you may want to wait for the next release of expanded guidelines.  

If you are interested in refinancing your home located anywhere in Washington, please contact me, I’m happy to help you!  Click here for a HARP 2 rate quote and here for all other mortgage rate quotes.

Piggyback Combo Mortgages are Back

I’m pleased to announce that we now have second mortgages and home equity loans available in combination with a first mortgage at Mortgage Master Service Corporation. I see this being very useful with keeping loan amounts under conforming limits (especially once they’re scheduled to be reduced on October 1, 2011).  Here’s some quick points on this program:

  • maximum allowed total loan to value is 85% with a mid-credit score of 720 or higher for owner occupied.
  • maximum allowed total loan to value is 70% with a mid-credit score of 700 – 719 for owner occupied.
  • maximum allowed loan to value of 80% with a mid-credit score of 720 or higher for a second home.
  • available for purchases or refinances.
  • maximum allowed debt-to-income ratio of 45%.
  • available as a HELOC (home equity line of credit) or fixed rates.  

Should you consider using a first and second mortgage combo for your home financing? That’s up to you!  What’s important is knowing and understanding what options are available to you so you can make an informed decision.  If you are buying or refinancing a home located anywhere in Washington state, I’m happy to help you with your mortgage needs. 

Second Mortgage Subordinations May Cause Huge Delays with Refi’s

If you have a second mortgage (home equity line or fixed term), and you are not going to pay it off during a refinance; it needs to be “subordinated”.   This is because of lien position with your mortgages…who gets to be first.   Lien position is determined by when a document (such as a Deed of Trust) is recorded at the county.   If you have two mortgages and are only refinancing the first mortgage, the second mortgage will need to be “subordinated”.  The subordination agreement is a recorded document with the second mortgage lien holder and the borrower that the second mortgage will go back into second position after the new first mortgage is recorded.   If this document was not recorded, than the old second mortgage would be in “first lien position” and the new refinance would be in “second lien position”.  This boils down to which mortgage has more rights in the event of a foreclosure…everyone wants to be first as the further down the line you are, the higher the odds are that the lien may not be cashed out (again, in a worse case scenario). 

Prior to our current mortgage crisis, a subordination agreement typically was not an issue.  We send a request for subordination along with a copy of the appraisal from the refi.  The second mortgage lien holder would review the request, consider the amount of equity remaining in the property and 9 times out of 10, agree.  This process would take a couple days.

With more banks being concerned about depreciating or soft values, they are now taking much much longer to consider if they will all allow a subordination to take place. In fact, I recently closed a transaction where the bank took over 10 business days (this eats away at your lock) for a borrower with 800 credit scores and a loan to value of just over 50% to subordinate a HELOC that with a zero balance.    An Account Manager from a bank that does a large amount of second mortgage recently sent out this memo:

“UPDATE on SUBORDINATIONS:   Please get your files in early… the subordination dept is running approx 20 business days.  I do not have any contacts for rushes etc.  They are trying to work date sensitive deals, but they have not been able to get caught up…”

Folks…20 business days is a month! 

If you are refinancing and have a second mortgage or HELOC that will not be included in the refinance, make sure your loan originator is aware and that they know how long subordinations are taking so they can lock your rate in appropriately.   A 30 day lock with a 20 day subordination is not going to cut it.  You’ll be looking at having to deal with a lock extension.

If your loan to value is higher, there is a possibility that the subordination may be declined.  Discuss this with your loan originator upfront.  Lenders are looking at any way to protect themselves from additional risk during these historic times.  If your loan amount qualifies and you have enough equity, you just may have to include that second mortgage in your refinance.