Borrow Smart

Recent Article on Foreclosures for Ameriprise Financial

I had an opportunity to contribute to the Ameriprise ViewPoints  again this month.  Click the VIewPoints link to read the article on Foreclosures.

Reverse Mortgage Paper

This is an excellent new paper on the implications of Reverse Mortgages and HELOCs on the elderly as a planning strategy... it offers good research and nice summary of strategies for consideration by the elderly as they enter retirement and must consider various ways of accessing real estate wealth to supplement savings.

I've highlighted all the key facts and summary information to allow you to review the document in 5 to 10 minutes.  This is a must read if you are a financial advisor or loan officer considering these products for your clients now or in the future.

Download Ktmetrmpaper

Should You Carry a Mortgage in Retirement?

First, let's start with some of the more interesting statements from this paper. 

Download MortgageinRetirement

• Among households aged 60 to 69 in 2007, 41 percent had a mortgage.  Of these, 51 percent had sufficient assets to repay their mortgage.
• Over the period 1925-2006, stocks yielded an average real return of 7.1 percent.
• 29% of households have sufficient non-retirement financial assets to repay their mortgage in full.
• 51% of households have sufficient non-retirement and retirement assets combined to repay their mortgage in full.
• One argument that is sometimes cited in favor of not repaying the mortgage is that retaining a mortgage increases the household’s liquidity, and enables it to better cope with sudden unexpected expenses.

This short 5-page paper attempts to argue for not having a mortgage in retirement.  And while the paper itself is short on examples that make sense to anyone without a PhD, the final conclusion is that most of those in retirement should pay off their mortgage with investment assets because they'll earn less on those assets than they'll make.

Essentially, we're back to a discussion on EPR, or effective percentage rate.  Will assets in retirement earn more on an after-tax basis than the cost of the mortgage.  With all questions of 'Suitability', the answer is always 'It Depends.'

Depends on what?  A great deal more than what was covered in this paper.  BUT, in this current market environment, I would agree with the author that emotionally many people have moved to cash, and may not have the fortitude for investing in this brave new world.  If the net cost of borrowing exceeds the net after tax return on your investment, then you are better off paying down the mortgage and using a HELOC, home equity line of credit, for any liquidity needs that may arise.  The benefit of this strategy is that you can still access the money for an investment opportunity should you need it, but in the mean time you'll get the benefit of the higher return.

EXAMPLE:  A consumer has $50,000 in a CD earning 2%.  They are in a 25% tax bracket, so they are essentially earning 1.5% on the CD after tax.  Their mortgage is $100,000 and they currently have a note rate of 6%.  Their EPR, or net cost of borrowing at the 25% tax bracket is going to be 4.5% (6% x .25% = 1.5% tax reduction... 6% - 1.5% = 4.5% EPR).  They could repay the mortgage by $50,000 and earn a 4.5% net after tax return as opposed to the cd return of 2%, BUT the need for liquidity, if there is one, should be considered and a HELOC for $50,000 used to replace access to that money.  Again, there are many other considerations one should consider.

If the author's estimate that the real return of 7.1% since 1925 is accepted, then the idea that earning more on investments net of borrowing is a real question to consider.  At the end of the day, one would need to consider inflation too.   Inflation erodes not only the investment gains, but the future real cost to repay debt.

Net:  The paper is light on substance, and it was written for the retiree that may be emotionally frustrated by a loss of personal wealth that could have already been used to repay mortgage debt.  My personal opinion is in line with the authors, but for different reasons.  Most 60+ retirees are better off paying down the mortgage due to a shorter time horion, and unwillingness to take the risk needed to invest in equities that can provide the real wealth spread needed to offset the time and risk.  Younger families with a longer term time horizon have many more options and considerations worth examining in more detail through a comprehensive Liability Management Review with a trained financial professional.

At the end of the day, ask the question 'What brings me the most peace?', and then work towards that to accomplish it in the most fiscally responsible way.  If you are right at retirement age, or already in retirement, you may not have time for this frustrating investment environment to return to a new normal.

New SAFE Act - Movement Towards Suitability

Essentially the SAFE act and the new laws are all about Suitability for the client.  As we say, Eligibility and Suitability are converging.  You'll want to begin to think about how you clearly show that your recommendation meets the new standards of the four primary rules to bring value to your client.

Download FedsNewRulesOctober09

Sec. 202. Net tangible benefit for refinancing of residential mortgage loans.

No creditor may extend credit for refinancing unless the creditor reasonably and in good faith determines, at the time the loan is consummated and on the basis of information known by or obtained in good faith by the creditor, that the refinanced loan will provide a net tangible benefit to the consumer. The refinanced loan will not be considered to provide net tangible benefit if the costs of the loan, including points, fees, and other charges, exceed the amount of newly advanced principal without any corresponding changes in the terms of the refinanced loan that are advantageous to the consumer. The Federal banking agencies will jointly prescribe regulations further defining the term “net tangible benefit.”

Special thanks to:  Dave Hershman

New 2009 Housing Affordability Study - Harvard Release

Download HousingStudy2009 - download my highlighted copy as speakers notes.

Each year Harvard does it's thing with a new study on Housing.  A wonderful report that can be used throughout the year.  We really like to get our students out using this as a 'speaking' item, and we recommend you do as well.  I've taken some of the highlights and put together a video you can watch to get a feel for what they're saying... check it out here:

Watch Video

New Predictions Out on Housing Bottom

Case/Shiller has new predictions on their housing bottom... and it means we still have a ways to go if they are correct.

TARP 2.0 / Key Emerging Factors

In the future it looks like banks will be subject to a "stress test" before receiving new money... it the bank isn't healthy enough to stay the course, and lend money, they don't get it.  Like handling 50 victims in a trauma ER, if the patient is likely to die the doctor might be better off not dispensing antibiotics.

Treasury will give $100 billion of the remaining $350 billion left in the Troubled Asset Relief Program directly to shore up bank capital.

New lending program is being created that will leverage up to $1 trillion to bring down borrower costs. Additionally a new $50 billion foreclosure mitigation program could be announced in the new two weeks.

A "bad bank" will buy problem assets. What's interesting about this?  To avoid putting taxpayers on the hook for the large expense, the Treasury plans to use private capital to buy the assets.

The big problem still remains, how to you price and value these assets?

They are planning to be more transparent, I recently signed a petition to have full disclosure of all funds to the public so there is better accountability of where the funds go.

"This comprehensive strategy will cost money, involve risk, and take time," Mr. Geithner said. "We will have to adapt it as conditions change. We will have to try things we've never tried before. We will make mistakes. We will go through periods in which things get worse and progress is uneven or interrupted."

Now that is a statement of the obvious, but worth putting on the record.

Sign of the Times

It would make things much easier if corporations would place corruption and personal greed right up front in their marketing.

This logo was sent to me by a friend, and if you don't think it's funny, read it again. 

Shiller on his Current Book - Irrational Exuberance

This is an excellent talk by Robert Shiller on his book Irrational Exuberance.  It is geared more to institutions and advisors, but here's a summary if you don't have time to watch.

Summary of the talk:

• Long way to go, this could last for many, many years, 5 to 10 years before we see things in housing return to normal (meaning 1997 era).
• Housing boom in 1997 was the biggest in history, and has collapsed 54% since then, so prices grew 100% from 1997 to 2006.
• Bubble Theory should be a full class series in Economics, excitement compounds, and as depression.
• Psychology management is key, when prices go up everyone gets excited, banks want to lend more when they should be cautious, and when prices go down they tend to be cautious when they should be more aggressive – (picture our emotional roller-coaster chart).
• We trusted financial institutions too much, didn’t consider that they could fail.
• Bailouts don’t have a lot of theory, so we are just patching holes – many of which offend our normal beliefs that we should not reward bad behavior.
• Real estate cycles are much less rational than other markets, they tend to go up and down with a lot less clear cause.
• We might want something closer to a ‘New Deal’ that changes the way institutions work.  Three key things need to happen:

1. New information infrastructure (clients need better advice – general public does not have a financial advisors they have sales people)
2. New broader markets (broaden the scope of how risk is managed, you need to manage asset and liability risk together)
3. New retail products (mortgage – traditional dominates and innovation is very difficult – we use long term fixed rate, and in other countries they use long term adjustable – mortgage products should be designed specifically to manage the risk of the individual consumer - current system favors the irresponsible - and future products should build in adjustments that alter product dynamically, rates and balances should adjust dynamically by market conditions to protect people from themselves).

College Board releases 2008/2009 college cost figures

On October 29, 2008, the College Board released college cost figures for the 2008/2009 academic year in its Trends in College Pricing Report. Not surprisingly, costs went up in every category. Here are the highlights: To view the 2008 Trends in College Pricing report, Download CollegeCost2008 .

Public colleges (in-state students):

• Tuition and fees increased an average of 6.4%
• Room and board increased an average of 5.2%
• Total average cost for 2008/2009: $18,326

Public colleges (out-of-state students):

• Tuition and fees increased an average of 5.2%
• Room and board increased an average of 5.2%
• Total average cost for 2008/2009: $29,193

Private colleges:

• Tuition and fees increased an average of 5.9%
• Room and board increased an average of 4.8%
• Total average cost for 2008/2009: $37,390

"Total average cost" includes tuition and fees, room and board, books and supplies, transportation, and other miscellaneous costs.

The College Board stated, however, that average cost is not necessarily representative of what most college students pay. The Board noted that there is considerable variation in price among institutions, and that almost two-thirds of undergraduate students enrolled full-time receive grants that reduce the actual price of college.

(c) Forefield, 2008 All Rights Reserved