4 solutions for underwater homeowners

Flickr image courtesy of public.resource.org.

"My home is underwater, worth about $216,000 against a loan balance of $240,000. I can refinance the loan under the HARP program, reducing the rate from 5.75 percent to 5 percent, at a cost of $3,400. Should I refinance? Or just try to sell the home and bite the bullet?"

Your first step should be to clarify your options, which are more numerous than you indicate. There are at least two legitimate ways to give up the house, and if you stay put there are two ways to refinance.

Option 1 is to sell the house and pay the lender the difference between sale proceeds and loan balance. The advantage is that you are out clean, with no black mark on your credit record and no lingering debt. The disadvantage is that it will cost you $30,000-$40,000 for which you will receive nothing but a thank-you -- and probably not even that.

Option 2 is to negotiate a short sale with the lender where the lender accepts the sale proceeds and removes the mortgage lien. The advantage over option 1 is that no cash outlay is required. The disadvantage is that the short sale drops your credit score. In addition, the lender may retain an unsecured claim against you for the amount of the balance not repaid with the sale proceeds. They don't always do that, but increasingly this has become the practice.

Option 3 is to accept an offer to refinance from your current lender, who is the only lender who will deal with you because of the negative equity. Using my calculator 3a, it will take about three years for the rate reduction from 5.75 percent to 5 percent to cover the refinance costs of $3,400. This option also doesn't require any out-of-pocket expense, because you can finance the cost. However, unlike options 1 and 2, you retain the negative equity. If you decide to sell within the next few years, the refinance costs will exceed the benefits of the rate reduction, and you will still have the negative equity to pay off.

Option 4 is to do a cash-in refinance to reduce your balance to 80 percent of current value. It is plausible that if you do this, the refinance rate will drop from 5 percent to 4.5 percent. Assuming a $216,000 value, you would have to pay down the balance by $67,200 and cover the $3,400 in closing costs, for a total required investment of $70,600.

If you have that kind of money, it is a great investment, as it carries no risk and will earn 6.23 percent over two years, 7.74 percent over five years, and 8.3 percent over 10 years. I calculated these on the new cash-in refinance calculator 3f I developed with Chuck Freedenberg, which is coming soon to my website.

I am not going to discuss the "walk away" option where you shrug off your contractual obligation and allow the lender to foreclose. I don't recommend this option and plan to write a separate article explaining why.

Reverse mortgages and power of attorney: Who is best fitted to protect an incompetent elder?

Elderly homeowners who need reverse mortgages but are incompetent may have the decision made for them if they exercised a power of attorney (POA) before they became incompetent. The POA grants a designated third party the right to act in the elder's behalf. Reverse mortgage lenders may or may not accept a POA, however, fearful that the reverse mortgage proceeds will be used for the benefit of the party with the POA rather than the elder, and the lender will be blamed.

Recently, I exchanged views on this issue with a certified elder law attorney and certified estate advisor who has not given me permission to use his name. The following is an edited version of the exchange.

ATTORNEY: We have lately been running into a huge problem with the reverse mortgage industry -- it seems that some, if not all, reverse mortgage lenders are now routinely second-guessing the legitimacy of every power of attorney document presented for use in connection with obtaining a reverse mortgage ... the reverse mortgage lenders are now refusing to honor the POA unless the Agent (1) obtains a letter from the applicant's doctor or former doctor stating that the applicant was mentally competent when the POA was originally signed AND (2) a letter from the applicant's doctor stating that the applicant is not now mentally competent. ...CONTINUED

All rights reserved. This article may not be used or reproduced in any manner whatsoever, in part or in whole, without written permission of Inman News. Use of this article without permission is a violation of federal copyright law.