Sub-prime loans are not bad in themselves although they have been abused. Nevertheless, sub-prime loans have made it possible for many families to buy their homes that won’t have been able to otherwise.

This is a level-headed look at sub-prime loans.

Perhaps some measures would make sense, but let’s keep the problem in perspective.

In the fourth quarter of 2006, 13.3 percent of subprime borrowers were behind in their payments compared with 2.6 percent for prime loans, the Mortgage Bankers Association reported last week. About 4.5 percent of subprime loans were somewhere in the foreclosure process compared with 0.5 percent for prime loans.

Clearly, subprime loans are riskier than prime loans. But they are not much riskier than they used to be. In fact, subprime delinquencies rates were higher in 2001 and 2002 than today, and they have exceeded 10 percent every quarter for the past decade.

What’s changed is that more homeowners have subprime loans today, so the same failure rates affect more people. One consumers’ group estimates that 2.2 million homeowners are at risk of foreclosure over the next few years. There were 1.2 million foreclosure filings in 2006, a 42 percent increase from the year before.

But look at the numbers the other way around: More than 86 percent of subprime borrowers are not late in payments, and more than 95 percent are not in foreclosure.

Surely, many of these homeowners, probably most, are glad they got subprime loans because without them they’d still be renters.

Here is the problem with sub-prime loans.

Certainly, there have been predatory practices in recent years — occasions when mortgage brokers or lenders have steered borrowers to subprime loans that were too risky for them. Experts say brokers’ commissions on subprime loans can be two to three times those on prime loans — a formula for abuse.

That should be disclosed to borrowers — as should all the special risks that come with subprime loans, such as the possibility that mortgage payments can soar. Regulators and legislators ought to strengthen disclosure rules and perhaps impose stronger penalties on brokers and lenders who conceal risks.

Exactly!

Sub-prime loans, however, weren’t as big a problem in my opinion as liar’s loans. Those were “stated income” loans where the borrower just “states” his income and his income isn’t checked.

The buyer thinks home prices will continue to increase rapidly so he just lies about his income and gets the loan.

He thinks the bigger the risk, the bigger the reward.

Well, the fraud worked great until home prices leveled off. Then he couldn’t make the payments and he couldn’t sell the home and break even.

The bigger the risk, the bigger the risk.

Advertisements