Could a little-noticed policy change by giant mortgage investor Fannie Mae help homeowners who’d like to move but can’t because they’re underwater – they owe more to the bank than the likely selling price of their houses? Could it help you?
Maybe. But you’re going to have to be able to qualify for a new mortgage to buy a new primary residence and rent out your current house, converting it into an investment property.
Here’s the background: Roughly 7.4 million American homeowners remain underwater as the result of plummeting prices during the housing bust and recession years, according to new data from research firm RealtyTrac. The vast majority have continued to make their mortgage payments on time and have maintained relatively good credit, say mortgage industry experts.
Many could qualify to purchase a new home but have been prevented from doing so. They either don’t have – or don’t wish to spend – the thousands of dollars needed to settle up with their lender as part of any sale. So they stay put. Daren Blomquist, vice president at RealtyTrac, estimates that 56 percent of underwater borrowers have owned their homes for nine years or longer. Nearly three-quarters have owned for six years or more.
“These (are) the folks who most likely would have had some life circumstance that makes it necessary for them to move,” such as a new job, a bigger family or simply a desire to live in a different neighborhood, he told me last week. Yet they haven’t because of their negative equity position.
Enter Fannie Mae’s recent policy change. With no fanfare or public announcement, Fannie has informed lenders that when owners seek to convert their primary homes to rental investment properties and buy a replacement home with a new mortgage, there will no longer be a minimum equity stake they’re required to have in the current home. Under previous rules, put in place during the last decade to counter fraud schemes, you needed at least 30 percent equity in your primary residence if you wanted to convert it into a rental, counting the rent toward your qualifying income for a mortgage on a new primary home. Plus you needed six months of liquid financial assets.
That’s all changed. Now you don’t need a minimum equity amount. Nor do you need a mandatory six months of liquid reserves – maybe just two months. In its notice to lenders, Fannie said it feels that it now has adequate controls on credit requirements, rental income and financial reserves in place to ensure that qualified borrowers who want to convert their primary homes into rental investments and buy a new house can do so responsibly.
How can this help owners who’ve been underwater and need a way out of their current houses? Take this real-life example. It involves a 37-year-old Maryland resident who bought her two-bedroom house at the peak of the price bubble – 2006. She owes $270,000 on it, but its current market value is just below $200,000. She’s never missed a payment – $1,615 a month – and has FICO credit scores in the low 700s. She earns $65,000 a year and needs a larger home, ideally with three bedrooms.
According to Paul Skeens, president of Colonial Mortgage Group, who is handling her application, she’s a good candidate for Fannie’s revised approach. With her current $5,416 monthly income plus $1,125 in net new rental income ($1,500 rent minus a mandatory vacancy factor of 25 percent), she qualifies for a $1,608 monthly new mortgage payment on a $230,000 three-bedroom home in the area.
But does this sort of solution work for everybody with negative equity and a hankering to buy another house? Not by a long shot. It takes a special set of circumstances: Underwater owners have to be able to pass all the standard tests to qualify for the new mortgage – credit, debt-to-income ratios that include car payments plus payments on both the old and new mortgages, as well as at least a couple of months of reserves. They also need to be prepared to handle the duties of being a landlord, collecting rents and managing the property.
Then there’s the debt on the rental property. Over time the owners will still have to figure out how to pay it off. They just won’t have to be stuck in the same old house while they do it.