Option ARMs: special treatment offered by some lenders

These Adjustable Rate Mortgages allowed borrowers to set their own initial interest rates so low that they could be adding to principle every year.  This allowed them to borrow much more than they could if they were paying the real interest due.  But the good news was short-lived.  At some point an Option ARM interest rate reverts to normal rates and payments balloon.  When this happens, large numbers of borrowers are unable to make the new payments and foreclosure looms.  Newsweek called them “Nightmare Mortgages.”

The New York Times (7/3/11) revealed that some lenders who hold large portfolios of Option ARMS are using some very interesting tactics to keep them out of foreclosure.  The most surprising technique is one being employed by JP Morgan Chase and Bank of America:  On homes where the mortgage exceeds the value of the home, and they think there is some danger that the loan could be heading into foreclosure, they are simply cutting the principle — often without being asked!

In one case reported in the Times a borrower in Miami was current in her payments on a $300,000 Option Arm, even though her mortgage was far in excess of the value of her condo.  She did not ask for help, but she got a $150,000 reduction in principle; cutting her payment in half.

Apparently the banks are finally figuring out that they will be better off if they do not foreclose.  Take the example above.  If the loan went sour and they foreclosed, legal costs, maintenance etc might be $50,000 or more and they are unlikely to get more than $150,00 by selling the condo at current market value.  Their losses would exceed $200,000.  This way they do not have to do the work of foreclosing; they lose just the $150,000 in principle; and they have a performing loan on the books.

The Times says that other techniques used by banks to avoid foreclosure on these loans include waiving prepayment penalties, refinancing, lowering interest rates, postponing some of the balance and extending the term.  All of these options can be better for the bank than foreclosure, and they are certainly better for the homeowner.

If you have an Option ARM that’s in trouble, or about to be, call your lender!

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