It is crazy, the last real estate crisis was 10 years ago and the government is still debating what to do with Fannie/Freddie, the largest securitizers of 30 year fixed mortgages. Why are we still debating the governments role in housing? Why is this increasing the monthly cost of your mortgage? Why are borrowers still using a 30 year mortgage anyway? What is the importance of 8?
The 30 year mortgage history:
The 30 year mortgage was created after the great depression to help encourage home ownership and make housing more affordable. Furthermore the government created government sponsored entities to help insure 30 year mortgages by granting the implicit backing of the US government. Essentially the government created an avenue for modern day mortgage finance.
Times have changed:
When the first long term mortgages were rolled out the world was drastically different than today. Many people stayed in their houses 20 plus years in the 1930s to 1960s. This began to radically shift in the 2000’s with the average time in a home dropping to 4.21 between 2000 and 2007 to the most recent census showing the average length just 8 years.
Why would you pay for a 30 year mortgage?
As times have changed, the average tenure in a home has dropped to just 8 years. This means that every 8 years on average US households sell and move yet a homeowner is paying a premium for a 30 year mortgage. When I checked rates today of a Well’s Fargo the 30 year conventional fixed was at 3.825 while a 7 year fixed was at 3.125, a 70 basis point difference. The US homebuyer is paying 708 basis points higher each year for a mortgage.
How does the government “encourage” the 30 year mortgage?
The 30 year mortgage is “government insured” meaning lenders that make these loans can sell to one of the government sponsored entities (fannie, Freddie) with little risk as long as they meet the underwriting criteria. Even if a loan goes into default, as long as the lender followed the guidelines they are “off the hook” for any losses. This is radically different than a 7/1 mortgage where the lender many times holds the risk of the loan. This increases underwriting to ensure payment by the borrower as the bank will likely take any loss on the loan if there is a default. Ironically politicians were fuming over the 08 crisis due to banks making various loans that had a higher rate of default, yet the government continues to encourage banks to make 30 year mortgages pushing the risk to the government just like the last crisis as opposed to putting more risk on the banks via shorter term mortgages that they portfolio.
The US government is making home ownership less affordable
By encouraging borrowers to take out 30 year fixed mortgages, the US consumer is paying substantially more than they should. Why pay for a 30 year mortgage when the average time in a home is only 8 years? Let’s do a quick example of the cost difference based on two scenarios, one is a $450,000 purchase price and the other is a $750,000 purchase price in a high cost area. Both of these loans are conforming loans assuming 20% down payment.
Assuming the average person stays in the home for 8 years, the saving would be approximately $12k for a $450,000 purchase and almost $20,000 for a $750,000 purchase. These are real dollars that consumers are overpaying each month for a 30 year mortgage. The increased monthly costs are decreasing borrower’s purchasing power on homes and making home payments more expensive than they should be.
The 30 year mortgage should be retired
The 30 year mortgage is a fixture of past times when homeowners bought a house and stayed in them for much longer periods of time. This is no longer the case today with homeowners moving much more frequently and paying substantially more every month in payments than they need to
Why are homeowners paying a premium for a product every month that they will never use?
I’m certain I’ll get e-mails that there are two good reasons for 30 year mortgages to stay 1) “some” people stay in their homes longer 2)Interest rates could spike. Unfortunately, both of these reasons don’t hold water. First, even if someone stays in their home, it is still more profitable to just refinance or let the rate float due to the savings each year. Second, what if interest rates spike? I think we have entered a new paradigm with low rates here to stay for the foreseeable future. Many European countries have gone to negative rates which is driving capital into secure bonds like US treasuries driving the yields down. I don’t see this trend changing anytime soon.
The time has come to end the 30 year mortgage. The government should stop encouraging homeowners into a product that doesn’t fit the realities of today and shifting mortgage risk to the government. Homeowners are not staying in houses for 30 years; they are staying on average 8 years or less. Shouldn’t homeowners get a mortgage that is tailored to what is happening in the market saving thousands a year in mortgage costs?
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Written by Glen Weinberg, COO/ VP Fairview Commercial Lending. Glen has been published as an expert in hard money lending, real estate valuation, financing, and various other real estate topics in the Colorado Real Estate Journal, the CO Biz Magazine, The Denver Post, The Scotsman mortgage broker guide, Mortgage Professional America and various other national publications.
Fairview is a hard money lender specializing in private money loans / non-bank real estate loans in Georgia, Colorado, Illinois, and Florida. They are recognized in the industry as the leader in hard money lending with no upfront fees or any other games. Learn more about Hard Money Lending through our free Hard Money Guide. To get started on a loan all they need is their simple one page application (no upfront fees or other games).