THE STASH FEBRUARY 19, 2009
I just wanted to fill a gap in the coverage of the Obama housing plan that may have confused some people. Part of the plan, as you'll recall, is to help people refinance their mortgages if they owe almost as much or slightly more than the current value of their house--a situation that normally makes it impossible to refinance. As Obama explained it yesterday:
[R]ight now, Fannie Mae and Freddie Mac -- the institutions that guarantee home loans for millions of middle-class families -- are generally not permitted to guarantee refinancing for mortgages valued at more than 80 percent of the home's worth. So families who are underwater or close to being underwater can't turn to these lending institutions for help.
My plan changes that by removing this restriction on Fannie and Freddie so that they can refinance mortgages they already own or guarantee.
And what this will do is it will allow millions of families stuck with loans at a higher rate to refinance. And the estimated cost to taxpayers would be roughly zero. While Fannie and Freddie would receive less money in payments, this would be balanced out by a reduction in defaults and foreclosures.
According to the fine print of the plan, Obama would allow people to refinance if they owe between 80 percent of 105 percent of what their home is worth (the technical term is "loan-to-value ratio" or LTV.) The question, I guess, is if doing this costs taxpayers nothing, why stop at an LTV of 105 percent? Why not help families refinance if they owe up to 150 or 200 percent of the value of their home, which would include millions more people?
The answer is, as I pointed out yesterday, is that doing the latter would cease to be costless. In fact, it would be very costly. The more interesting question is why. As I understand it, the reason is as follows: When Fannie or Freddie refinance a mortgage, they have to issue new bonds to support that mortgage. The way the bond market is structured, Fannie and Freddie can issue these new bonds fairly cheaply (i.e., at a low interest rate) if the LTV is at or below 105 percent. But the interest rate on any bonds they issue for a mortgage with an LTV above 105 shoots up dramatically. So the government would have to eat a pretty big cost if they expanded the program to include people whose mortgages are deeper underwater.