Back in the old days of Mortgage Lending (when loans were originated to solvent homebuyers with down payments, and at levels they could comfortable service) , the common rule was that homeowners would be limited to a mortgage that was within 25-28% of their monthly gross household income, with 31-33% being allowed for high income buyers/people with a lot of disposable income.
I think that the architects of "homeowner rescue programs" should keep this rule in mind, because you can't modify, rescue, legislate, etc, someone out of a situation that is simply unaffordable.
I.e. the question offered should be: "would the monthly payment for a fixed APR, market rate mortgage for this particular individual be in the 28-33% (dependent on income level) range?"
If the answer is yes then this is an individual that can possibly be helped, if not then you're just delaying the inevitable for that homeowner as they've just gone from a financially unmanageable situation to one that's slightly less so. Individuals who fit in the latter category would be better served if they were provided assistance that would help them to move on to a more sustainable housing situation, as opposed to trying to enable them to stay in their homes at all costs.
Trying to enable people to stay in financially unsustainable housing situations will not only magnify the eventual negative impact on the finances of these individuals, but it will also extend the housing downturn as you're just creating a glut of future foreclosures.
While I'm sure this all sounds rather harsh, the fact remains that until we accept the mathematical reality of the current crisis (at all levels) we're not going to be able to engineer the solutions that will enable the economy to recover. The thinking needs to move towards the mathematical reality of things, as opposed to the reality we'd like.
In other words:
You can't rescue people from a financially unsustainable housing situation.
Nothing should be done to halt the decline in housing prices, as they were hyper-inflated in the first place and a price correction is a necessary part of having a stable housing market in the future.
Again while these are unpleasant harsh realities that people would rather not think about/believe, confronting these realities is a critical part of devising the solutions that will help us emerge successfully from this crisis. Furthermore thinking/solutions that are disconnected from reality will only prolong the crisis, and/or in many cases serve to make things worse.
Disclosure: at the time of publishing the author didn't own a position in any of the companies mentioned in this article; the ideas expressed are solely the opinions of the author and shouldn't be viewed as financial or investment advice.
updated Nov 14, 2008
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