Tuesday, July 31, 2007

A "No-Spin" Mortgage?

I've heard Ray Vinson on the radio advertising a $72,000 mortgage loan for only $299 a month. In some of Ray's commercials I've heard Bill O'Reilly endorse Ray's "No-Spin Mortgage". Ray goes on to brag about how he's "saved" people hundreds of dollars a month.

I went to Ray's web site to see if he had any details on this wonderful mortgage, but if he had any they were well hidden. I brought out my financial analysis tool, Excel, and calculated that a 30-year fixed rate loan at the terms stated would require that the interest APR would need to be about 2.88%.

I didn't think that interest rates were that low, and at www.bankrate.com found that a 30-year fixed rate mortgage with zero points is running somewhere around 6%, or twice that. Looking around a bit, I saw an ad by Quicken Loans offering $200,000 for $585 a month. While the amounts are different the ratio of loan amount to payment is similar to that for what Ray is touting.

So I clicked on the link in the ad, and was rewarded with an explanation for the wonderful rate. In the fine print for the ad:

Rate is variable and subject to change. After the initial fixed-rate period, the rate will adjust every 6 months. The initial, minimum payment on a 30-year $200,000, 5-year Adjustable Rate Loan and 80% LTV is $583, with 3.25 points due at closing. The minimum payment is based on a rate that is implied solely for the purpose of calculating the minimum payment which in this example is 3.5%. Interest will accrue at a rate of 6.50%. Paying only the minimum payment will result in deferred interest or negative amortization since you will not be paying all of the interest that is owed each month. The unpaid interest is added to principal. Interest can be deferred until the outstanding principal balance is 15% (10% in New York) higher than the original loan amount. If the maximum limit is reached during the first 5 years, the payment automatically converts to an interest only payment. In this example, the maximum limit will be reached in the 53rd month, which is when the loan amount reaches $172,500.00. At this point, the minimum payment will convert to an interest-only payment of $1,245.50. After 5 years, the interest only payment is $1,437.11. After 10 years, the principal and interest payment is $1852.37. The Annual Percentage Rate is 7.533%. Rates could change daily. Actual payments and rates may vary depending on individual client situation and current rates. Some restrictions may apply.

So let me summarize: You're not really "saving" money on this loan. While your cash flow for the first few months after taking out the loan is reduced, you're going deeper in debt as the interest you didn't pay gets added to the loan balance. And when you took out the loan, you immediately went further in debt by $6500 (3.25 points on $200K) plus probably $2K - $3K of closing costs. The example in the fine print is also erroneous or at best confusing. With negative amortization (paying less than the interest) the loan balance will not be $172,500 after 53 months, it will be over $238K. And in reality will probably be higher when the interest rate adjusts above 6.5%.

The devil will be sure to point out all that high-interest-rate credit card debt that was retired when the mortgage was taken out from Quicken. True, you're paying a lower rate on that debt. But you're also paying interest on the $6500 in points you added to the loan, and will be paying interest for another 30 years or so. Perhaps even when you think you'd like to be retired. And if you refinanced from a mortgage that had a lower rate, you're paying a higher interest rate on that amount as well.

Plus, someone who would be suckered in by this deal probably will forget about the forthcoming doubling to tripling of their mortgage payment, and run up the balances on the credit cards, again. When their mortgage payments balloon up, they'll really be in a pickle and this time could find themselves on the street when their house is foreclosed. Learn more about these loans from this Federal Reserve pamphlet or this one.

If you're contemplating such a loan -- don't do it!!! Look for an alternative. Eat Ramen noodles for awhile and pay down the credit cards directly. If it's too late and you already have one of these loans, stop making only the minimum payments. Stop using your credit card and pay them off as quickly as you can. After your credit cards are taken care of, put all the payments against your mortgage so that you finish paying it off sooner. Read more about Dave Ramsey's debt snowball.

If your monthly payments are less than the interest being charged by the mortgage company and the credit card companies, you're not "saving" money. You're getting deeper and deeper in debt.

Is Ray Vinson's mortgage like this? Can't say for sure since he won't tell us. But I sure know which way I'd be betting. I think Bill O'Reilly's "No-Spin Zone" is really "Only-Bill-Gets-to-Spin Zone" but that's off the topic. I'd be interested to hear from someone who's has a mortgage brokered by Ray, either from Vinson Mortgage or from American Equity Mortgage.

In any financial transaction, be sure to find the fine print and read it carefully. And this goes double if you're looking at a "No-Spin" mortgage from Ray Vinson.