Housing reform and what it could mean for you. In our three part series on the housing reform bill we discuss three major changes that could impact your decision to buy, sell or refinance your home. 
Part 1
Listen to this short introduction in the player or subscribe to the full Podcast Download housing_reform.mp3
If you can imagine a ball of Silly Putty rolling down the aisles of the senate floor and how much unwanted stuff would stick to it, you can imagine what happened to the housing reform bill as it made its way through congress. Some of what was tacked onto the bill had nothing to do with the current lending issues at all.
At over 700 pages long, it will take awhile to discern what the ramifications will be in the housing or financial markets, but suffice to say we’ve found some interesting changes in existing laws that will have an unexpected, and in most cases, unwanted result. We figure the government wanted to find a way to fund some of these reforms so hang-on…
Most important to remember is the deadline—December 31, 2008. That date is important in two scenarios—buying or refinancing or purchasing a rental property. The first scenario we’ll deal with is purchasing a new home or refinancing your current residence. As it stands, the conforming loan cap which was $417,000 has been raised in high cost areas to $729,750 (125% of median home value for a particular area) will drop back down to $625,500 for the foreseeable future after December 31, 2008. Why is it nice to have a conforming loan? Rates are cheaper since these loans fall under Fannie Mae and Freddie Mac guidelines and are easily sold as securities in the secondary market. What if I’m buying a home for more than $729,750? It doesn’t actually work that way. The maximum loan amount for a conforming loan is $729,750. If one were to put down 20% the home value could not exceed $912,187 in order to stay under the cap—that’s hard to do in the Bay Area. But if you’re buying a home that costs over that amount you can still get a first loan (conforming) for $729,750 and a second for the difference—at a higher rate of course, or elect to make up the difference in cash. Another ramification is there may be some impact to the value of homes near the $912,187 threshold. For instance, a seller may choose to lower their price to $910,000 instead of $920,000 to attract more buyers. In this case the seemingly small differential in price is exacerbated when interest is calculated over 30 years at the higher non-conforming rate.
Here’s an example between buying a home that qualifies for a conforming rate vs. one which is just slightly over the limit.
Sale Price $912,187 $920,000
Loan $729,750 $736,000
Rate 6.625% 8.250% (30 year fixed rate as of August 14, 2008)
Monthly $4,672.67 $5,529.32 diff $856.65
Total interest $952,410.93 $1,254,555.99 diff $302,145
Notice that the seller asking just slightly over the price threshold of $912,187 will cost the buyer $856.65 per month for a grand total over 30 years of $302,000! Which house would you buy? Based on this example, it’s clear to see why sellers may choose to lower the price of their home to get under this price point if they are even remotely close to the $912,187 threshold. Of course buyers are free to make up the difference in cash to keep their loan at conforming levels.
After December 31, 2008, when the conforming cap reverts to the $625,500, the choice becomes to buy a home worth less in order to qualify for a conforming loan–$819,375, or get a second loan at a much higher rate for the difference. Here’s what that would look like assuming rates remain unchanged and the buyer is purchasing the same home for $912,187. As compared to the above example, the monthly payment would go to $4788.35, or $115.68 more per month, and for a total of $41,641.65 more in interest over 30 years.
Clearly, buying before the year runs out has its distinct advantages—all other factors remaining equal.
Check back to read about the second reason December 31st deadline is importnat and read the second of our three part series on Housing Reform Bill HR3221.
