Originally created 05/25/04

Mortgage lenders getting more creative as business wanes



NEW YORK - With the Federal Reserve widely expected to hike interest rates as soon as next month, mortgage lenders are hoping to keep business profitable by luring consumers with new terms.

After an incredible U.S. housing boom fueled by historically low interest rates, a moment of reckoning is looming for the home lending industry. Mortgage refinancing applications are plummeting as Treasury yields are heading higher.

Many homeowners who've used their house as a virtual ATM in recent years have already refinanced their mortgages, in some cases several times.

To generate new business, lenders are getting even more creative and according to some observers, pushing the envelope too far.

Companies are offering loans that allow borrowers to skip a payment while those that require only interest payments are also growing in popularity.

These products are certainly appealing, especially to those who are cash-strapped, but critics worry that homeowners may be misled by the benefits.

"Letting people forgo a payment on their mortgage is outright encouraging them to be undisciplined," said Gary Schatsky, a financial adviser and former chairman of the National Association of Personal Financial Advisors. "That's very alarming to me, especially given the fact that we are dealing with something as important as a mortgage."

Fannie Mae, the nation's largest mortgage finance company, backs this type of loan in a pilot program called PaymentPower.

The skip-a-payment product allows borrowers who have paid their mortgage for three months to skip up to two payments a year, or 10 payments over the life of a 30-year loan.

In exchange, borrowers have a choice of paying a higher interest rate over the life of the loan or paying a fee whenever they decide to skip a mortgage payment.

"It's another way for them (mortgage lenders) to make money in an industry that is facing a drop in business," said Schatsky. "Unless a person is overwhelmed with higher interest rate debt, I don't recommend this type of loan."

There are 11 mortgage banks affiliated with Fannie Mae's PaymentPower pilot program, with one of the nation's leading lenders, Countrywide Home Mortgage, among them.

"Times have changed and it's not all about the traditional plain vanilla 15-, 30-year fixed rate mortgage anymore," said Doug Perry, vice president at Countrywide Home Mortgage. "People want more options and this product is perfect for some people."

Lenders are also marketing mortgages that require interest-only payments, but these loans are also being misused, say some observers.

"A growing amount of people are not properly using the extra cash freed up from these loans," said Steve Rhode, founder and former president of credit-counseling agency MyVesta, who now runs his own financial advisery practice. "The cash should be to pay down higher interest rate debt, not to rack up more debt, and that's what I am seeing happening right now."

With an interest-only loan, borrowers pay only the interest on the total amount borrowed and in many cases only pay principal after a prescribed period. Under online mortgage lender Quicken Loans' latest loan program, the borrower is required to pay only interest on the loan for the first 10 years of the mortgage.

"When (interest) rates fluctuate, consumer preferences change and lenders create new mortgage programs to meet the diverse array of consumer needs for that particular rate environment," said Bob Walters, chief economist at Quicken. "For many people a nontraditional mortgage might be a much better option."