Q: “A firm called Success Trust & Holding LLC has offered, for $4500, to make my mortgage payments for three years, at which point my mortgage will have been completely paid off. In addition, they will pay me an amount equal to the value of my house at that time. Comments?”

Among the early mortgage payoff schemes I have looked at in recent years, this is perhaps the most outrageous.

The STH plan makes other early payoff plans look benign in comparison. The others ask you to pay them for showing you how to accelerate the repayment of your mortgage with your money. Their deceit is in making you believe that you couldn’t do it without them.

In contrast, STH promises that if you pay them $4,500 upfront, have 20 percent equity in your house, and add them to your deed as a co-owner, they will make your mortgage payments for three years. At the end of that period, they will deliver a paid-up mortgage to you, remove their name from your deed, and cut a check to you for the current appraised value of your house.

To illustrate the absurdity of this, assume I have a $300,000 mortgage balance on a $400,000 house. If I believe them, my investment of $4,500 would grow to $700,000 in just three years! That’s a return of 196 percent per year, without any assumed appreciation.

The appeal of the STH plan is the out-sized return on investment, rather than an accelerated pay-down of the mortgage balance. It is similar in many respects to the mortgage loan warranty programs I have written about in the past (see “Is This Mortgage Warranty on the Level?” on my Web site). However, STH promises returns three or more times higher than the warranty programs.

Even the most gullible consumers, who secretly believe that some day a good fairy is going to solve all their financial problems, need an explanation of how such a high return is possible.

The STH story is based on an erroneous interpretation of fractional reserve banking. Its interpretation is that any commercial bank has the capacity to expand its deposits and assets by a multiple of an increase in its cash reserves.

For example, if banks must hold reserves against their deposits of 12.5 percent, a bank at which STH deposits $100,000 of homeowner equity convertible into cash could create $700,000 of additional deposits. In the process, it would add the same amount of loans or investments, which will fund the outsized returns STH promises its clients.

There are three fatal flaws in this story. First, it is not possible for an individual bank to expand in the manner described above. The bank receiving a cash deposit of $100,000, which is subject to a reserve requirement of 12.5 percent, can increase its earning assets only by $87,500, not by $700,000. This is what every banker will tell you, and they are right. Anyone interested in the technical details will find them in the Web version of this article.

The second flaw is that even if it were possible for a bank to expand in the manner assumed by STH, the bank couldn’t possibly earn enough to pay the returns that STH promises. If their deposits were costless and they earned 9 percent on their assets, they would have to expand by a factor of 20 (not six or seven) just to cover their cost.

The third flaw is that STH cannot deliver the cash reserves that banks need to expand their loans and investments. There is no legal way that partial ownership of a mortgaged home can be converted into cash assets of use to a bank.

STH claims it is working with 250 banks, but will not identify any of them.

In response to my inquiry, STH said that it was dropping its requirement that it be placed on the deed. However, the company will have your credit report, Social Security number and copies of your deed, mortgage, note and appraisal. In unscrupulous hands, these permit an enormous amount of mischief.

If you have $4,500 and want to pay down your mortgage, send it to the lender marked “apply to principal.” This will work for sure.

The writer is Professor of Finance Emeritus at the Wharton School of the University of Pennsylvania. Comments and questions can be left at http://www.mtgprofessor.com.


What’s your opinion? Send your Letter to the Editor to opinion@inman.com.

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