Help explain US mortgages to me

Factual Questions
1

I’d like to understand a few basic things about how mortgages work here in the US.

A week or two ago, I was listening to NPR, and they had a guest that talked a little about the mortgage crisis, and also explained a little about how getting a mortgage worked then, and now. My memory is crap, so I’ll post what I remember, and then ask a question about it.

She said something to the effect of in the past, the place you applied for a loan, was the place that lent you the money. Now, she said, there are three agencies* involved. One of them being the place where you apply for a loan, which isn’t agency that actually loans you the money; the agency that actually loans you the money, and I can’t remember what the third one is.

My first question is, when you go to apply for a mortgage, what agencies are involved? (My wife and I got our mortgage 10 to 11 years ago, so I think things were simpler then).

My second question has to do with the “slicing and dicing” of mortgages. In the bundle of mortgages, is it made of full mortgages, or would a bundle be made up of say, something like, 30% of this mortgage, 45% of that mortgage, 22% of another mortgage, and so on…?

As far as I know, unless somebody has 2 or more mortgages out, you usually send the mortgage to one company. For example, my wife and I pay Wells Fargo. Does Wells Fargo own 100% of the mortgage?

And finally, for those people with houses worth less than what they owe, if they are able to refinance for the current value…I’ll have to give an example…Say somebody has $175,000 left to pay off on a house, but the house is now worth $150,000. They basically want to pay back $25,000 less than what they borrowed, correct? And if so, does a single bank lose the $25,000 (assuming the refinance goes through), or, because of “slicing and dicing” does it mean that one bank looses a few thousand here, and another one a few thousand there?

Thank you

*I’m using the word agency as a catch-all for agency, business, body, organization, you get the idea…

2

It really depends where you get your mortgage. Mine is through a credit union and they don’t sell them off. But a lot of times your mortgage is sold right away after you get it. I don’t know if it is sold whole or broken up, it might be broken up.

The people who get your mortgage money may not even own it, they may just be processing the payments for someone else.

If you owe 175k and the house is now worth 150k the bank could agree to take the 150k - that is called a short sale. Who ever owns your mortgage loses the 25k.

3

Generally, the loan is “originated” by someone (Entity 1) who is not necessarily the owner (Entity 2) of the loan. Then, you send money every month to the loan servicer (Entity 3)

Maybe. Wells is a little unusual in that they didn’t play in the whole Subprime Mortgage Sausage mess nearly as much as other banks, and they own most of the loans that they originated and service. However, there’s a chance that your loan is actually owned by someone like Sun Trust or Freddie Mac and Wells just handles the servicing of it. If you really want to know, you’d need to call their customer service people and ask. Wells also services mortgages for a lot of other companies.

Nope. Unless they are doing something like a bankruptcy and the BK judge orders what’s called a “clawback” to reduce the loan balance to something closer to market value, they will be on the hook for $175,000 and will simply be “underwater” like so many other people.

There are a couple options via the various HOPE NOW and TARP programs that allow for non-BK clawbacks in loan modifications - in those cases, I think the Federal government eats the difference upfront, then if the house is sold for a higher amount later on, the Fed and the bank split the profit.

4

We got our mortgage first through a mortgage broker. We refinanced about a year later for a lower interest rate at the same place.

Our loan was sold a couple of times, and then last year we took advantage again of the lower interest rates and refinanced for a shorter term, going from 30 to 20 years. That time we did it through Lending Tree, who then sold the mortgage to Citi. (I know, ha ha ha.)

We have always had fixed rate loans. We refuse to do it any other way.

5

That’s because you are smart.

FWIW, my mortgage originated with Citi and remained with them for its entire lifetime.

6

Yeah, our mortgage is fixed too.

I was just asking because, besides wanting to know about how this whole, crazy, mixed-up, process works, I’m contemplating starting a GD thread, and I just didn’t want to start one with a faulty premise.

Anyway, most of my questions are answered, thank you very much. Now hopefully, someone can shed light about mortgage “bundles”.

7

Basic concept?

Loaner wants to minimize the risk for every investment, so Loaner sells shares in the investment.

Loaner will never get anyone to invest in shares of single mortgage, so Loaner ‘bundles’ a thousand mortgages, and sell shares in them.

Loaner does not have a thousand “AAA” mortgages, and so bundles ‘sub-primes’ in with the good ones.

Mortgage-backed securities were like corporate bonds, where no-one knew the bond rating.

(And Mortgage Brokers were the spawn of Satan.)
(Except Tom My Mortgage Broker, who actually discouraged me from committing fraud with my application. Thank you, Tom.)

8

My sequence was a little different. I got an FHA first-time buyer loan. FHA never keeps the loans they approve. They always sell them asap, but they may still hold a guarantee. I forget who they sold it to, but they turned around and sold it to Citibank after a year.

I assume that Citibank is the owner and biller. But would they be obligated to inform me if they had bundled and sliced my loan?

9

There are scams where people would get a letter saying "please send your mortgage payment to us, we now own the loan " and it was a lie. So they thought they were paying the loan and they were not.

10

Every time my loan has been sold I have recieved a letter from the lender telling me my loan was sold and the new payee will be------- so if I do not hear from by send the check to with --------'s name and address. Then I get a letter and cupons from ---------.

11

Another aspect of “slicing and dicing” mortgages involves securitization. There are many variants of this, but one typical method is as follows (I am taking some liberties with the numbers, but you will get the idea). Say there are 1,000 mortgages, each for $100,000 at 7% interest. These are put into a pool, which now holds $100,000,000 worth of mortgages paying 7%.

Now, divide them up into three groups, each worth 1/3 of the total. But, they are not equal. The first group (A) gets all interest and principal payments until it is fully paid off. After this, the second group (B) gets all interest and principal payments until it is fully paid off. Then, if anything else comes in the third group (C) gets paid.

So, for A not to get their money back, 2/3 of the mortgages would have to default (they only need 1/3 of the mortgage holders to pay, as they get first dibs). Conversely, for C to be completely wiped out, only 1/3 of the mortgages would have to default (as A and B will grab the first 2/3). Thus, C takes on a lot of additional risk, which gives A and B a lot of safety.

So, why would anyone buy a C group security? Because they will get a higher interest rate. For example, A might only get 3%, B might get 7%, and C might get 11% (note this still averages out to 7%). When default rates are low (i.e. good economic times), owners of C get lots of extra interest. But, if things go south, they will suffer big losses.

Even in this simple example can be hard to model the three groups (i.e. figure out a price for A, B and C), and some of the more complicated ways of slicing up the pool make it even harder. This is what contributed to the subprime crisis – a lot of companies were holding C investments and thought they would never go bad.

12

Thank you for that explanation Bolt the Nut, it’s helping me understand this whole thing a little better now.

13

If they sold the entire loan to another owner, they’d tell you and you’d start writing checks to someone else. If they issued securities that are backed by your loan, as described by Bolt the Nut above, they don’t have to tell you, because it doesn’t matter to you. You still owe money to Citibank, not to the people who bought those securities.

14

Bold the Nut’s tale stops short of the real insanity in mortgage backed securities. The low end slices are rated poorly as higher risk. So what to do? You bundle those up into a new package and slice them up and get AIG to rate the first slice AAA! (Wall Street became Lake Wobegone where all the securities are rated above average.) Lather rinse repeat.

This is part of the reason that unravelling all the layers up layers of securities is so hard and is hurting the the credit market. People just have no idea how much “real value” is actually connected to a lot of securities.

15

They definitely still hold a guarantee. Their whole existence is predicated on insuring mortgages. FHA is a mortgage insurance company, not a mortgage lender.