Charles Mortgage Tips

Ever think about speculating in residential real estate? If you you better be careful. You can get burnt real bad. Home prices can go down. They can go way down. Here's a horror story for you.

Sam and Sue (not their real names) bought themselves a 15,000 sq. ft "starter castle" (some call them McMansions) on a no money down, adjustable rate subprime mortgage. In the salad days of 2005 these yuppies (young urban professionals) 'stole' it for $1,200,000.

The house was going to be a 'flipper'. Like all flippers the plan was to hold on to it for a couple of years and then 'flip' it for 10% profit, $120,000. That's sure beats working for a living. The payments were in the $5,000 a month range.

The house wasn't just a flipper, it was a see-through flipper--not a stick of furniture in it. You could 'see through' the windows without obstruction because there was nothing in it. The yuppies who bought it had no intention of living in the house.

In 2007 the market began to fall and the see-through flipper went upside down. That's mortgage loan slang that means that the house was worth less than the value of the mortgage. By 2008 the "starter castle" could fetch no more than $900,000 on the open market if you could find a buyer. So if Sam and Sue could sell the house for $900,000 they would have to come up with an additional $300,000 just to pay off the mortgage. But wait, it gets worse.

The subprime mortgage loan reset in February, 2008. It reset and the payments shot up to the $8,000 a month range. By March the yuppies were puppies (poor urban professionals) and were being pursued by an alligator that eats about $12,000 a month in cash. If they could find a buyer, which they can only do with extreme luck, they'll have to throw $300,000 in cash at the mortgage bank to keep it at bay. But few in the market were buying because many who wished to move also were trapped in upside down houses.

Sam and Sue's original plan was to dump $120,000 in two years of payments, flip it at $240,000 and make good their escape with $120,000 in profit. Instead they dumped perhaps $180,000 in payments over a three year period, found the escape hatch blocked and jumped overboard. They played 'jingle mail' and mailed the keys back to the lender. Now their credit is ruined, they've lost hundreds of thousands of dollars.

All of this happened because they believed that housing prices never declined and their speculation was 'safe'.