Surge in Underwater Mortgages Forces Obama Administration to Review Loan Limits

By Don Miller
Associate Editor
Money Morning

Almost a quarter of U.S. homeowners now owe more on their mortgage than their homes are worth, according to one new study, signaling additional challenges to the Obama administration's efforts to stabilize the housing market. 

About 21.8% of all owners were underwater as of March 31, according to a report today (Wednesday) by, a Seattle-based real estate data service. That figure is up from 17.6% at the end of the fourth quarter of 2008, as prices of homes continued a downward slide from their 2006 peak.

Home values dropped by $2.4 trillion last year, First American CoreLogic said in a March 4 report. Roughly 8.3 million U.S. homeowners owe more than their properties are worth and an additional 2.2 million borrowers will be underwater if prices decline another 5%, the Santa Ana, Calif.-based seller of mortgage and economic data, said in the report.

"What's going on here is that you don't have any markets that have turned around and you have new markets, like Dallas, that have joined the ranks" of communities where home prices have fallen, Stan Humphries, a vice president told The Wall Street Journal.

The data paints a clear picture of the difficulties confronting U.S. Federal Reserve Chairman Ben S. Bernanke and the Obama administration as they labor to kick-start a housing recovery. Even though the Fed pushed 30-year fixed home loan rates to a record low by purchasing mortgage-backed securities last month, the unemployment rate surged to 8.9% in April from 8.5% in March, forcing many would-be buyers to the sidelines.

The drop in housing prices complicates matters for as many as five million homeowners who may be eligible to refinance mortgages held by Fannie Mae (NYSE: FNM) and Freddie Mac (NYSE: FRE) under terms of a government program announced in February. That program limits assistance to mortgage holders of loans that are a maximum of 105% of the home's value. As prices spiral downward fewer homeowners can meet that threshold.

That has government officials considering an increase in the limit.

"It's a question that we're looking at," James Lockhart, director of the Federal Housing Finance Agency, which regulates Fannie and Freddie, told the Journal.

And the malaise is now spreading to the neighborhoods of the rich and famous including the ritzy beach towns of the Hamptons on Long Island, N.Y. As the jumbo loan market dries up wealthy homeowners are finding themselves in the same boat as subprime borrowers - unable to refinance or sell because of shrinking prices.

About 90 homes began the foreclosure process in the towns of East Hampton and Southampton in the first 10 weeks of 2009, according to the Real Estate Report in West Islip, New York, Bloomberg reported. That compares to 109 in the same period last year and 73 in the first 10 weeks of 2007.

Sales in the Hamptons fell 67% in the first quarter from 2008, the most since tracking began in 1982, Bloomberg said citing a report from Town & Country Real Estate of the East End LLC. The median sale price slid 28% from a year earlier.

"It's the trickle-up effect," David Adamo, chief executive officer of Luxury Mortgage Corp., a home-loan bank in Stamford, Conn., told Bloomberg News. "Just like homeowners in smaller homes, these homeowners anticipated being able to refinance mortgages to continue making payments and at a future date sell for a gain...that strategy backfired when the market for jumbo mortgages dried up."

Fannie Mae and Freddie Mac won't buy or guarantee most jumbo loans, imposing a limit of $417,000 in most areas. Jumbo lending slowed to $11 billion, or 4% of the mortgage market, in the fourth quarter, the lowest figure ever recorded since trade publication Inside Mortgage Finance started tracking the data in 1990.

In many cases, wealthy borrowers seem to be guilty of gaining access to excessive credit through the same low-documentation loan processes that led victims of the subprime mess to their demise.

"There was this unrealistic view that the crazy financing was limited to subprime when of course it was across the board," said Andrew Laperriere, Washington-based managing director at research firm International Strategy & Investment Group. "A lot of jumbo mortgages were nothing down with high debt-to-income ratios."

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