Refinancing: Only for the privileged few

Sure, now is a great time to refinance - that is, if you can still qualify. Here is what lenders are looking for.
By Les Christie, CNNMoney.com staff writer
February 8 2008: 8:03 AM EST

NEW YORK (CNNMoney.com) -- The good news: mortgage rates are down and applications for refinancings are up. The bad news: it's much harder to qualify for a refinanced loan these days.
What's more, the borrowers who need to refinance the most - because their adjustable rate mortgages (ARMs) are resetting to higher interest rates - are among those having the most trouble winning approvals.
"I'm turning away about 60% to 75% of the clients who come to me for a refi," said Bob Moulton, president of Americana Mortgage Group on Long Island, N.Y. "Some don't have enough equity and others have bad credit scores."
During the boom years, lenders approved most anyone with a pulse. Not so today. Mortgage brokers recognize this and are now being very selective about the clients whose applications they choose to submit to the likes of Wells Fargo or Bank of America.
If an applicant has poor credit, or a home whose value is rapidly deteriorating, they're just not going to bother.
"If the person is Sweet Polly Purebread -- good income, good assets, high credit score -- there's money out there," said Moulton. "But if not, then it's harder."
Interest rates are way down - 5.67% is the going rate for a a 30-year fixed loan this week, according to Freddie Mac - which in turn has generated a spike in refinancing applications.
Total mortgage applications were up 73% last week compared with the same period 12 months ago, according to the Mortgage Bankers Association (MBA), and 69%of those applications were from borrowers seeking to refinance. Last February, when interest rates were about 6.3%, about 46% of applications were for refis.
The make-or-break metric for anyone looking to refinance right now is home equity - the difference between what is owed on a house and what the house is worth. But with home prices down, many homeowners have little of that precious commodity left.
"If you have an 80% loan, with a 10% home equity loan, you may not be able to refinance," said Peter Grabel, a mortgage broker in Connecticut - especially in down markets.
Consider a homeowner who bought in Miami a year ago with 20% down. Home prices have fallen 15% there in the past year, wiping out three-quarters of the equity. Lenders, want collateral that's worth more than the value of the loan, are wary about having so little cushion. If they have to repossess and resell the house, they're on the hook for a big loss.
If there's no home equity, borrowers may have to come up with substantial cash and pay down the mortgage to make refinancing possible. Otherwise they're out of luck.
"No lender would take that deal," said Marc Savitt, president of the National Association of Mortgage Brokers. "It's a lot different from two years ago."
The bar has also been raised for credit scores when it comes to refinancing, according to Grabel. And sometimes, it's not a matter of whether someone can get refinancing but at what price.
"Those with high credit scores are getting very good rates, but the lenders have heightened the requirements to qualify," said Grabel. Instead of a score of 680 for the best rate, a borrower might need 700 now.
For example, he has a client who wants a cash-out deal. The client has lots of equity in his house but a dismal credit score - 552.
"I used to have 20 lenders I could send him to; now there's maybe one," said Grabel. "The rate, though, will be high, higher than what he's paying now. Lenders may do a loan, but it may not make financial sense for the borrower."
The only reason that this client will take the deal is because he's going through a divorce and needs to buy out his wife. He doesn't have time to rebuild his credit rating, but he's lucky that at least his house appraises well.
Indeed, appraisals are another tool that lenders are using to eliminate unqualified applicants..
"It used to be a formality," said Grabel. "Now it's, 'Lets do the appraisal first and see what value comes in." Lenders are scrutinizing them to a degree unheard of during the boom. They don't want to lend $160,000 on an appraised value of $200,000 unless they're sure the house is truly worth that.
Ted Grose, a past president of the California Association of Mortgage Brokers, said lenders now often conduct what he called "bench reviews" of appraisals. "They have an experienced, independent third-party go over the appraisal to make sure the numbers are accurate," he said.
Grose called many of the applicants he sees "very challenging, mostly because of high loan-to-value ratios."
Many of these people took exotic loans to get into high-priced properties. They used hybrid ARMs that are resetting to higher rates, or interest only loans.
Particularly deadly are option ARMs, which act as negative amortization loans; the payments don't even cover the interest and the balance grows over time. Combine that with falling home prices, and the loan balance may be more than the home's market value.
Under those circumstances, said Grose, few borrowers can be helped.