Little-Known ARM Puts Mortgage Industry At Risk
- Feb 01, 2008
New York–Forget criticizing the traditional ARM’s role in the subprime mortgage crisis; mortgage bankers, industry experts and nonprofit officials say that the effect from a rarely discussed loan called the Option ARM could mean more headaches for prime and subprime borrowers in the future.”So far the public is largely unaware Option ARMs are going to cause problems,” Scott Stern, chief executive of Lenders One Mortgage Cooperative, told The New York Times. “But mortgage servicers know what’s looming in the pipeline.”According to industry experts, a system encouraged mortgage brokers to sell more Option ARMs than traditional loans to get higher commissions–which has left many prime homeowners with good credit and subprime borrowers with bad credit unable to refinance or sell.Option ARMS often were given to borrowers without requiring much proof of income, which pushed many into loans outside of their affordability range. Also, Option ARM interest rates reset periodically–but borrowers are allowed to make just a minimum monthly payment, which doesn’t get added to the principal of the loan. The mortgage then goes up continuously in a process called negative amortization.According to a Fitch Ratings report, nearly 90 percent of the borrowers who took out an Option ARM in 2006 were suffering from negative amortization. At least 60 to 80 percent of Option ARM borrowers make just the minimum payment each month, according to industry estimates.In 2006, U.S. regulators increased restrictions for Option ARMs, reducing the number of new Option mortgage loans; however, until then, many were issued.About $1 trillion new mortgages were issued in 2005, and another $1 trillion in 2006–about half of which were ARMs, according to the Mortgage Bankers Association and the Federal Reserve. Option ARMs comprised 7.2 percent of all mortgages in 2005 and 14.4 percent in 2006: a total of roughly $210 billion for those two years alone.