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Opinion, commentary and analysis on everything that makes the U.S. housing economy tick -- not to mention the ghosts in the machine, too. Written by HW's team of editors and reporters each business day.

Pass the Debt

June 8, 2009
As shocking as it is, the story of the pay-option adjustable-rate mortgage (ARM) has become old news: A borrower buys a huge home worth $1m with a mortgage that seems too good to be true at little more than $2,500 per month. After the bills start coming in, however, the borrower realizes it really was too good to be true. The bill had only prompted the minimum due, even though the total amount payable was more like $5,000. The bank conveniently loaned the borrower the remainder each month and tacked it onto the principal. Then the monthly rate reset. The pile of debt that initially grew bit by bit now swells into a mountain. And the borrower? Stuffed under too many helpings of debt, underwater on the home and losing any chance or hope to refinance. Some groups, like the mortgage loan restructuring business segment of the Law Offices of Joseph R. Manning, Jr., promise relief through mortgage modification (although what can be said about the success of these efforts when the mortgages are already too deep underwater to qualify for refinance is unknown). Sean Reynolds, the managing director of the legal office's restructuring business, calls pay-option ARMs the next wave of defaults plaguing the luxury home market -- where many of these ARMs cropped up, as the average borrower couldn't afford them any other way. The law office is even prepared to go after lenders, brokers and servicers that violate borrowers' rights, according to a media statement. Without getting into what responsibility the borrowers are expected to take in the origination process, it's understandable that home owners would attempt to do something about all that debt, regardless of whether they can actually repay it. It's no wonder that consumers who took out pay option ARMs, subprime mortgages and other heaping helpings of debt are finding themselves in dire straits. With already expensive mortgage payments about to explode with reset rates, some home owners might even have to pass debts from one form to another to make ends meet each month. One such option, credit card debt, is showing signs of the strain as some home owners are forced to use credit cards for living expenses after the mortgage payment wipes out a substantial portion of monthly income. TransUnion.com, one of the major US credit bureaus, found the average bank card borrower's debt inched up 0.82% to $5,776 in Q109 and is up 4.09% from the year-ago quarter. Meanwhile, the bank card delinquency rate of borrowers 90+ days past due on one or more of their cards rose 1.32% in Q109 and is up 9.1% from the year-ago period. "As the recession entered its sixth quarter, we saw continued increases in average bankcard balances, as consumers struggled to meet repayment obligations in a job market that continues to deteriorate," says Ezra Becker, director of consulting and strategy at TransUnion's financial services group, in a media statement today. With the US unemployment rate now up to 9.4%, some borrowers that had relied first on refinanced mortgages and then on credit cards to get by may soon find themselves facing an unhappy alternative: foreclosure, repossession or bankruptcy. In May alone, US consumer bankruptcy filings were up 37% from the year-ago levels, according to the American Bankruptcy Institute (ABI). The total volume of filings in the month -- 124,838 -- stayed roughly level with April's volume -- 125,618 -- although Chapter 13 filings made up 27% of all consumer cases in May, above the April rate. A Chapter 13 case allows the debtor to keep his or her possessions and property, and to pay creditors under a budgeted plan. And, if Senate Bill 61 eventually goes through, a Chapter 13 debtor might also qualify for his or her bankruptcy judge to forgive -- or "cram down" -- a portion of the home mortgage balance or otherwise modify the mortgage to ensure affordability of payments going forward, again passing the debt further away from the borrower. “As consumers continue to face increasing levels of unemployment and rising foreclosure rates, bankruptcy filings will continue to accelerate as families seek financial relief from the tough economic climate,” said ABI executive director Samuel Gerdano in a media statement. With the ABI predicting more than 1.4m new bankruptcies by year-end, it seems like the cycle will continue to unwind as long as the housing market stumbles along toward bottom.
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