Probably. Home ownership is for
people with long time horizons who want to build equity. Those who are
fixated on today, and on how much cash they have in their pockets
today, are poor candidates for homeownership. They are easy prey for
scamsters who take their equity by dangling cash under their noses. This
legalized thievery has victimized a number of low-income people who
obtained homes under the Habitat for Humanity (HFH) program.
Beneficiaries of the HFH program
must have below-average incomes and must contribute a certain number of
hours of labor to the construction or rehabilitation of their house. The
lure is that they are able to buy a house at a knock-down price, and to
finance it with a 0% mortgage. You can�t get a better mortgage than
that. Yet a minority of them foolishly agree to refinance it into a
mortgage carrying a high rate -- 14% is a typical rate on these deals --
because they are offered cash in their pocket, and sometimes a lower
monthly payment.
Here is an illustration of how
this scam works. The house provided by HFH is worth $90,000 and HFH has
arranged for a 0% loan of $48,000 to be paid back in monthly installments
of $200 over 20 years. Under the refinancing, the loan amount is raised to
$78,000, with $48,000 repaying the old loan, $10,000 covering loan fees,
and $20,000 going into the owner's pocket. The monthly payment on the new
loan is only $150. Getting $20,000 in cash plus a lower monthly payment
makes it look like a can�t-lose deal to the owner, who doesn�t
understand what ownership means.
The sad fact is that the owner has
traded $42,000 of equity -- a house worth $90,000 less the mortgage of
$48,000 -- for $20,000. The new mortgage has a rate of 14%, which is
typical for deals of this type, and a balloon payment equal to the unpaid
balance is due after 2 years. Since the $150 payment falls well short of
the interest, the loan balance the owner is obliged to pay after 2 years
will grow to almost $99,000. At that point, the owner will lose the house.
People who contribute the money
and sweat required to make the HFH program work are understandably
infuriated by these predatory practices. HFH could eliminate the scam by
incorporating a prohibitively large prepayment penalty in the loan
contract with the borrower. The penalty could equal the owner�s equity,
i.e., the difference between the loan balance and the current appraised
value of the house. The penalty would eliminate the con because a
refinancing would trigger a transfer of the owner�s equity to the first
mortgage lender, leaving nothing for the scamster. The penalty would not
apply in the event of sale of the property, since the purpose is to
prevent refinancing, not sale.
Prepayment penalties historically
have been used to protect lenders from borrowers looking to refinance
high-rate mortgages in declining rate markets. Some states restrict
prepayment penalties as a type of borrower protection. As far as I know,
however, prepayment penalties have never been used to protect borrowers
against their own folly, so this would be a first.
In states that now restrict
prepayment penalties, new legislation would be required that would
eliminate the restriction in cases where the penalty is triggered by a
refinancing into a mortgage carrying a rate higher than the existing rate.
It would not be difficult to design a rule that would protect HFH
borrowers without opening the door to prohibitive prepayment penalties in
the conventional market.
