Financial Samurai

Slicing Through Money's Mysteries

The Average Credit Score For Approved Mortgages Is Declining

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average-fico-approved-mort

Before the recession, average FICO scores for approved mortgages averaged around 720. 720 is actually the cut-off point between “Good” and “Excellent” credit. Given the housing market collapsed nationwide anyway, one shouldn’t be too impressed with a 720 credit score. A 720 credit score should be viewed as average, at least from this loan officer’s perspective.

After the housing bubble burst, the average score for approved mortgage applicants shot up to 769 from 2009 until the end of 2012. A 769 credit score beats out 80% of all other credit scores out of 850. In other words, banks weren’t lending to hardly anybody. The upside is that the probability of a similar type of housing crash in the future has declined.

The “good news” for borrowers is that according to Fannie Mae the average credit score of an approved mortgage applicant is now down to 741 as of the third quarter of 2016. I say “good news” because it’s brutal for even good income earners to get a mortgage nowadays. Many renters I know have been shut out of the housing market simply because they can’t get a loan.

Although credit standards are loosening, a credit score of 741 is still a pretty high hurdle to overcome given you still need a good income and a healthy balance sheet to cover borrowing ratios. But at the margin, a lower credit score hurdle should allow more people to borrow money to further support the housing market recovery. I still see little signs of sub-prime mortgages or negative amortization mortgages returning. But one thing we should be concerned with is the latest Federal Housing Administration initiative to get Boomerang Buyers back in.

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How Difficult Is It To Get A Mortgage Nowadays? Brutally Difficult And Extremely Painful

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Hidden Mosaic Steps, San FranciscoOne of the reasons why I don’t think the next housing collapse will be as long and painful is because getting a mortgage since 2008 has become brutally difficult. I just went through a painful one in 2019 and the process shows me that only the most qualified people are getting loans and refinancing. These folks won’t be defaulting so easily during the next downturn.

There was a time when no-documentation mortgages, negative amortization mortgages, and NINJA loans (no income, no job, no asset) were common place. Those loans are equivalent to when passengers could smoke on airplanes so long as they were in a “smoking row.” Unbelievable.

I documented back in 2012 that it took 100 days to refinance my mortgage. It was a painful experience given just two years before it only took 45 days to refinance. I was anxious the refinance wouldn’t go through because once you don’t have any W2 income, you are DEAD TO BANKS. I was determined to save an extra $300+ in mortgage interest a month if it killed me. Definitely refinance your mortgage BEFORE you quit or engineer your layoff folks.

Now that we’re 11 years into a bull market in 2020, you’d think that getting a loan would be a little easier. Nope. Getting a mortgage is as brutal as ever. Let me share my latest journey.

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No Financing Contingency Offer: A Way To Pay All Cash For A Property Without Having The Cash

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Park ViewIt’s official. I lost my first overbid in this crazy San Francisco property market.

The property was a single family house, 3/3, on a small lot, overlooking a park asking $1.299 million (picture). I’ve known the listing agent for a while and she mentioned that $1.35 million would get it done, but I was thinking $1.2 million instead. She had two other over-asking offers, but I couldn’t muster up the courage to bid more than $1.315 million.

It wasn’t a big loss because the property didn’t tug at my heart. I figure, if I’m going to be spending more than a million bucks on a property, I better be excited, or else why bother. Yes, property prices are crazy out here in San Francisco, but this price point is actually relatively good value.

I’ve been agonizing over paying down my existing rental property mortgages or leveraging up to buy more property. The jury is still out, but I’m willing to at least prospect around to see if there’s anything I like before making a decision. Besides, I figure this latest house hunting experience will provide good educational content for other folks looking to buy in a hot property market.

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The Refinance Window Is Closing: Historical Charts Of The 10-Year Yield

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Increase your home's value with one phone callMortgage rates have finally started to pick up in 2017 after Trump’s victory. The view is that Trump’s policies will be inflationary due to heavy government spending and borrowing.

I recommend refinancing as many times as possible if existing rates are at least 0.5% lower and you can break even on the refinance costs within 24 months. Not refinancing due to laziness or fear is quite stupid. It’s interesting to note that the larger your mortgage to refinance, the lower your explicit refinance costs. Given I believe the ideal mortgage amount is $1 million dollars (if you can afford it) for tax purposes, my refinance costs are often “no cost” with fees simply embedded in the new lower rate. There is no free lunch, but it sure feels that way when a bank says do you want a 0.5% lower rate that will cost you nothing out of pocket!

SO WHAT IS A HOMEOWNER SUPPOSED TO DO?

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Should I Do A Cash-IN Refinance? The Benefits And Risks Of Paying Down A Mortgage For A Lower Rate

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Cash-In Refi A San Francisco MansionA number of you have asked me whether you should do a cash-in refinance so I’d like to share my thoughts on this interesting scenario. A cash-in refinance is basically when you pay down your existing mortgage to under a certain loan-to-value ratio in order to qualify for a mortgage refinance.

Loan-to-value is calculated by taking your mortgage divided by the value of your property. A LTV of 80% or lower is generally what is required by most big banks nowadays in order to refinance e.g. $400,000 mortgage, $500,000 house. For rental property buyers, banks usually require a 30% downpayment or more, which equates to a LTV of 70% or lower.

Mortgage rates have come down significantly over the past 10 years thanks to the Federal Reserve’s loose monetary policy, lower inflation rates, increased demand for fixed income instruments, and difficult economic cycles. I was personally stuck with a 30-year mortgage of 5.875% on my vacation property because the condotel secondary mortgage market shutdown after the collapse. For years, I longed to refinance down to 4.25% or lower, but I didn’t want to throw more cash into an illiquid asset. Instead, I was able to get a loan modification for free from Bank of America.

But let’s say you can’t get a loan modification and desperately want to lower your mortgage interest rate. The only other option is to do a cash-in refinance.

HOW TO DECIDE WHETHER TO DO A CASH-IN REFINANCE

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The Maximum Mortgage Tax Deduction Depends On Income

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Victorian San Francisco HouseThe US government has blessed us with the ability to deduct our mortgage interest expense from our income, thereby lowering our tax liability. If you go to Canada, Australia, Asia, and Europe, there is no such benefit. At least they’ve got cheap healthcare!

Given the US has a progressive tax system, the higher your income, the more valuable your mortgage interest income deduction. Homeownership with a mortgage is absolutely the best tax shield for everyday folks out there. I knew my income would rise over time and wanted to match the timing of my home purchase when I entered the 28% tax bracket.

Take a look at the latest marginal tax rates for singles and married couples.

Single Filing Status For 2016

  • 10% on taxable income from $0 to $9,075, plus
  • 15% on taxable income over $9,075 to $36,900, plus
  • 25% on taxable income over $36,900 to $89,350, plus
  • 28% on taxable income over $89,350 to $186,350, plus
  • 33% on taxable income over $186,350 to $405,100, plus
  • 35% on taxable income over $405,100 to $406,750, plus
  • 39.6% on taxable income over $406,750.

Married Filing Jointly or Qualifying Widow(er) Filing Status For 2016

  • 10% on taxable income from $0 to $18,150, plus
  • 15% on taxable income over $18,150 to $73,800, plus
  • 25% on taxable income over $73,800 to $148,850, plus
  • 28% on taxable income over $148,850 to $226,850, plus
  • 33% on taxable income over $226,850 to $405,100, plus
  • 35% on taxable income over $405,100 to $457,600, plus
  • 39.6% on taxable income over $457,600.

What’s important to note is that if you are in the top tax bracket, you get 39.6 cents back for every one dollar in interest you pay on your mortgage.

If you also pay State tax, you can see how your marginal tax rate can easily reach 45% on your last dollar of income earned! The beauty of the mortgage interest deduction is that it applies to your marginal income, and therefore your highest marginal tax rate.

For those in the 15% Federal tax bracket or below, I would not rush to buy a home. There are more costs to ownership that just a mortgage and property taxes and you’ll qualify for the standard deduction. When you’re in the 25% marginal tax bracket, that’s when homeownership starts making more sense provided you follow the 30/30 rule for home buying.

Here’s the proposed federal marginal income tax brackets for 2017 if Donald Trump does not make any changes.

2017 Marginal Federal Income Tax Rates

And here is Donald Trump’s plan for reducing the top marginal tax bracket for those making over ~$400,000 a year to 33% from 39.6% while raising taxes from 28% to 33% for individuals making $112,500 – $190,150 a year.

Trump Tax Plan

Source: Tax Policy Center

Here are the latest federal marginal income tax rates for 2020.

2020 Federal Income Tax Rates

HOMEOWNERSHIP IS WORTH MORE TO HIGHER INCOME EARNERS

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Greedy Banker or Thoughtful Banker?

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Turkish BacklavaMy friend is leaving his job of the past five years to work on his own start-up.  When he got an e-mail solicitation from his mortgage officer about whether she could come by his office with a set of boxed lunches for him and his colleagues, he told her “no thank you” because he was leaving.  He purposefully kept his plans vague and hoped she’d just leave him alone as he attends to his new life.

Instead, she came back with the following response,

“I am sorry to hear that? When you land at another organization, please let me know.  Also, let me know if I can help through the transition. Since you are still on payroll, I always suggest putting a Line of Credit in place. And if you need a brokerage account to rollover your 401K, we can certainly assist.”

Pretty thoughtful right?  Or is it?  My friend responded,

“Thanks.  It’s actually voluntary.  Doing my own thing.  I’ve got enough saved up for the next 8 years, so I don’t think I need a HELOC, unless the rates are super low.  Even then, I don’t need it because I have the cash.”

Seems like a nice way of saying he’s fine and does not need the banker’s help.  Instead, the banker comes back and says,

“I always suggest putting a line in place even if you have cash on hand. Especially since you are still on payroll as it makes the process much easier. I recommend investing your liquid savings in higher yields within your comfort zone and instead put a home equity line in place for say $100,000 to act as your emergency line.  If you need it it is there for you, if you don’t great it does not cost you anything.”

At this point, my friend is starting to get annoyed.  He’s been polite about saying “no thank you” twice now, and yet the banker keeps on pushing.  She recommends my friend use his 8 years of excess liquidity to invest in riskier assets, so he can borrow money from the bank via his home to keep liquid!?!  This seems to make no sense.

“Sure, give me a risk free 4% yielding security and I’ll take out as big a Line of Credit as you want!”

No response from the banker yet, and it’s been a week………

Wealth Building Recommendations

Shop around for a mortgage: Check the latest mortgage rates online through LendingTree. They’ve got one of the largest networks of lenders that compete for your business. Your goal should be to get as many written offers as possible and then use the offers as leverage to get the lowest interest rate possible from them or your existing bank. When banks compete, you win.

Explore real estate crowdsourcing opportunities: If you don’t have the downpayment to buy a property, don’t want to deal with the hassle of managing real estate, or don’t want to tie up your liquidity in physical real estate, take a look at Fundrise, one of the largest real estate crowdsourcing companies today.

Real estate is a key component of a diversified portfolio. Real estate crowdsourcing allows you to be more flexible in your real estate investments by investing beyond just where you live for the best returns possible. For example, cap rates are around 3% in San Francisco and New York City, but over 10% in the Midwest if you’re looking for strictly investing income returns. Sign up and take a look at all the residential and commercial investment opportunities around the country Fundrise has to offer. It’s free to look.

Fundrise Due Diligence Funnel

Less than 5% of the real estate deals shown gets through the Fundrise funnel

Updated for 2019 and beyond.

Why I Won’t Pay Off My Mortgage Until I Retire

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Amazing property

Party at my house!

Having a mortgage is a wonderful thing. In fact, I owe much of my work longevity to my mortgage. When I was 24, I came across a lot of cash due to a couple good stock picks. I was just lucky, because goodness knows I can’t pick stocks for doodoo. I never really told anybody how much I had, but it was enough to put 25% down on a median priced home in San Francisco and still have several years of mortgage payments left over.

By my mid 20s I began questioning the meaning of work. Perhaps I was simply suffering the lesser known “quarter life crisis.” Because I had arrived at what I considered to be too much money too quickly, working to make more money lost its appeal. It didn’t matter if I added another thousand or ten thousand to my savings, making money was so uninspiring. I was demotivated because of a couple chance trades that required very little skill, just a lot of balls.

The great irony is that I don’t need much of anything to live a comfortable life. Give me some clean clothes and a place overlooking the beach with a hot tub off the bedroom balcony and everything will be OK!

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