By April Short
“I struggle every day with the idea that I may lose my home to a foreclosure,” Santa Cruz resident Juana Macias said. “I was given no warning and suddenly my mortgage payment reached twice its original number.”
Macias is not alone in her plight. As we travel further into the year, 2008 slaps the economy bluntly across the face with a startling mortgage crisis. Whispers of recession and even depression arise from the dust of over 2.2 million empty homes awaiting foreclosure across the nation. In 2007, Santa Cruz residents alone lost more than 240 homes to foreclosures, five times as many as were lost in 2005, and hundreds are still in danger of losing their homes.
*The Mortgage Crisis*: In the late 1990s through 2006, the country experienced a “housing bubble” or a period of rapid increases in the value of real estate properties. Such bubbles usually continue to keep the economy on the rise until unsustainable value levels in relation to incomes are reached.
When a bubble bursts, the values of the properties have become higher than the amount home and property owners are able to pay. This is followed by a mortgage crisis in which many people can no longer afford their mortgages.
Thus, a sudden dramatic increase in the rate of foreclosures across the nation ensues. The mortgage crisis began to infect the real estate market beginning in 2006, and now the country is experiencing a full-fledged crisis.
While many factors led to the bursting of the economic bubble and the resulting strain on the economy, one particular issue served as the catalyst in turning this economic lapse into a crisis: greed. When the economy boomed, the dream of wealth, and ensuing greed, appear to have motivated many homeowners to push for loans they could not rationally afford, and certain brokers to target their very own customers with impossible loans and mortgage rates. These rates now doom many homeowners to suffer slow financial deaths.
*Option ARM Dispersal*: Lawyer Bill Purdy, who works in Soquel at the Law Offices of Simmons and Purdy, believes the untamed dispersal of Option Adjustable Rate Mortgage (ARM) loans is to blame for the mortgage-loan dilemma.
“The Option ARM loan is not something most people should have, but [lenders and brokers] broadly marketed it to everyone they could get their hands on,” Purdy said. “These loans were so broadly dispersed they were like locusts — they decimated neighborhoods.”
The Option ARM is a loan that provides borrowers with the choice between several loan options. The borrower may choose to pay a minimum-option payment, an interest-only payment, or a fully-indexed option payment.
If the borrower chose the minimum payment, they did not initially have to pay the full interest on their loan. “Adjustable Rate Mortgage” means the loan contains an interest rate that can change monthly. Therefore, under the minimum payment plan, the loan was growing in size each month and the borrower was falling further and further into debt.
“The borrowers I see and talk to usually thought ‘if I can make this month’s payment, I will be okay,’ but this was not the case,” Purdy said.
When the borrower’s loan grew so much that value of the home equity became equal to the value of the loan, or the loan reached its cutoff price, the borrower would suddenly be asked to pay off the entire interest on the loan.
Because they were not fully educated on negatively amortizing qualities of their loans, the amount these borrowers owed could double in size, or triple, almost overnight.
*Greed as a Potential Factor*: What motivated these brokers to deceive their own customers? Purdy believes it was “unbridled greed.”
“Many lending companies and banks anticipated the Option ARM Loan to be extremely lucrative,” Purdy said.
According to Purdy, when the housing market boomed, lenders encouraged reckless distribution of this loan option. At this time, when a house went into foreclosure, the banks doing the lending expected to make large profits off of the resulting foreclosed homes as buyers snatched them up.
Therefore, these lending banks would pay expensive Yield Spread Premiums (YSP), or what Purdy likes to call “bounties,” to brokers willing to target people with damaging loans and prepayment penalties. A broker, if prepared to convince a customer to take a loan option that would likely result in the eventual loss and foreclosure of their home, was paid a premium. In some cases the premium was determined by the prepayment penalty the broker was able to tie to the deal.
According to Phil Lewis, a loan officer who works for Financial Strategies Mortgage Services: “The broker would get one point origination (one percent of loan), in one-year prepayment penalty, two if in two-year prepayment, three if three-year prepayment.”
“[The option ARM loan is] for investors in the appreciating market to use as a tool, not for someone who can only afford the low payment. It’s up to the broker to educate the borrower on that,” Lewis said.
Pete Ogilvie is a broker who has worked in the industry for 23 years.
“Properly [the YSP] is a consumer benefit. Improperly it is not — it is used by people to line their pockets at the consumer’s expense,” said Ogilvie, an honors graduate of UC Santa Cruz and president of the California Association of Mortgage Brokers.
In many cases, borrowers did not know their brokers were being paid this compensation by a lender, as unlicensed brokers are not required by law to tell borrowers at any point that they are being paid by the lender, or what the lender was paying them to do. Department of Real Estate licensed brokers, such as Lewis and Ogilvie, are required by law to disclose any income they are receiving to their clients.
“For those of us who are Department of Real Estate licensed brokers, it’s not only an obligation, it’s the law,” Ogilvie said. “Any compensation we are receiving, whether from the lender or from the borrower, we must disclose it.”
*Language Barriers*: Juana Macias is a homeowner who feels targeted by her own broker. She purchased an Option ARM loan from a broker who assured her it was the best loan option she could obtain. Because her first language is Spanish, Macias’ broker explained the loan in Spanish. Now Macias is working two jobs, and every day she fears the loss of her home.
“When I come home from work every day I am unsure of whether I will be able to keep on living in my home,” Macias said. “I feel we were targeted because we are Latino and are not fluent English speakers.”
Spanish speakers are among those most commonly targeted and heavily hit by mortgage-loan dishonesty. Because these Spanish speakers are not fluent in English, they are inclined to seek brokers who also speak Spanish. Thus, it is common to find Latino brokers who prey upon Hispanic clients. Purdy says he frequently sees cases of Latino-on-Latino crime of this nature happen in Santa Cruz County.
“One of the principle reasons that the Hispanic population is a good one to target is that you have a group of people united by a language that is still very much in use. This has created a vulnerability because there is a significant number of Hispanic Americans who are not comfortable transacting business in a language other than Spanish,” said Purdy. “The majority of Hispanic victims have been victimized by other Hispanics, because they can. It is not common for me to have Hispanic borrowers who have brokers that don’t speak Spanish. It is normally Hispanic brokers and I think pretty near exclusively so.”
Purdy said there are two standard reasons Latino victims make good targets for Latino brokers. One is the logistical fact that business transactions are easier without the involvement of a translator.
The second is a cultural reason. Many of the Latino victims he comes across are from the small communities in which people know one another, and as a result trust one another implicitly in business transactions.
“When they come here and begin living and working, these Spanish speakers have a tendency to hang on to that concept. I have had many of my clients say, ‘He was one of us, or she was one of us. How could they do this to me?’” Purdy said. “Hispanic groups were easier to target, they were highly cohesive. They did not have access outside of Spanish-speaking people to find out what was even in their documents.”
This targeting of Spanish speakers hits home in Santa Cruz, where the Latino population numbers 69,429 residents. The targeting of non-native-English-speakers, however, is just one of the many damaging practices that has caused the mortgage-loan disaster.
*The Numbers*: In a testimony to the U.S. House of Representatives, Paul Leonard, California office director for the Center of Responsible Lending (CRL), deemed California the “epicenter of the mortgage-loan crisis.”
According to the estimates of CRL, reckless lending practices and the ensuing investor demand for the resulting loans have put 2.2 million families nationwide at the risk of losing their homes to foreclosure. Five hundred thousand of these homes were Californian. Over 240 homes were lost in Santa Cruz County last year.
What has been called the “subprime” problem by most media outlets extends in reality far beyond the subprime market. The extreme number of foreclosures has made for a weaker housing market. Homeowners who diligently paid their mortgages will be damaged by declines in property values and are faced with difficulty paying their property tax.
In a November 2007 report by CRL entitled “Subprime Spillover,” it was discovered that nationwide foreclosures cost neighbors $223 billion, with average individual property value loss of $5,000. In California $67 billion was the cost, and the average individual property value loss was upwards of $8,000.
*Brokers not all to Blame; Greedy Homeowners*: Compensation-seeking brokers, however, are not the only ones at fault in the Option ARM Loan arena. Borrowers who sought to make a quick profit off of the housing market’s boom are also to blame in many cases for the widespread distribution of the Option ARM Loans. According to Erica Spellacy, a loan officer for Pacific Capital Mortgage in San Luis Obispo, because the Option ARM Loan allowed for a lower payment option, many borrowers forcefully requested the minimum payment option in hopes that the rising market would increase their equity and allow for quick refinancing of their homes.
“The clients, in my opinion, were often to blame,” Spellacy said. “People saw friends of theirs making $50,000 to $100,000 a year in equity. People got very greedy. They wanted to make a lot of money. There were loan programs where [brokers] didn’t have to verify [the borrower’s] income. People could qualify and get a loan without verifying their income. And these borrowers became very aggressive. All they wanted to hear was that they would be making the cheapest payment.”
About half of the loans Spellacy arranged last year were Option ARM Loans. Brokers are not heavily responsible for borrowers who have gone into debt, she said.
“We are not people’s mommies and daddies. There is no requirement for us to budget people’s lives,” Spellacy said. “The problem is that there may have been some loan officers that didn’t really explain the complicated loan problem very well. But I know that I explained it well and showed them the loan programs and explained it every month, and I still get angry calls.”
Many people are worried the mortgage crisis will result in recession.
“Who knows what the economy is going to do? One day the government is saying inflation, the next they are saying recession,” Lewis said. “Who knows if it’s a recession, but we know people are going through tough times right now.”
On the bright side, Lewis said this is a good buying opportunity.
Lewis said, “I know so many borrowers who are now able to afford a home for the first time in 10 years.”