Millions of Homeowners Keep Paying on Underwater Mortgages

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With home prices stagnant in much of the country, payments on mortgages that are underwater could take billions of dollars that might be used for other forms of consumer spending, becoming a drag on family finances, the housing market and the overall economy. This situation could persist for years.

Of the estimated 15 million homeowners underwater, about 7.8 million owed at least 25 percent more than their properties were worth in the first quarter of this year, according to Moody's Analytics' calculations of Equifax credit records and government data. More than 4 million borrowers, including 672,000 in California, 424,000 in Florida and 121,000 in Illinois – three of the biggest real estate markets – were underwater more than 50 percent. Their average negative equity: $107,000.

Many of these homeowners are paying much higher interest rates than the latest national average of 4.25 percent. They still have jobs and can afford to make the payments, but can't refinance because they owe too much. A home equity line of credit isn't possible. Even ordinary loans may be impossible to get. And selling the home at a huge loss is out of the question. Nor can most underwater borrowers take advantage of the Treasury Department's loan-modification program, which generally requires a job loss or another kind of hardship. These homeowners are pretty much stuck.

One example is a family owing $415,000 on a Santa Rosa, Calif., town house they bought in 2004 for $430,000. When the county appraised the three-bedroom home recently, it was worth $246,000 -- even less than a year earlier. The couple had planned to move to a larger home after their two grade-school children became teenagers, but now that looks impossible. Their house needs a new roof, but they've put off replacing it for more than a year.

The family could walk away and stop making the mortgage payments that consume a big part of their income. But defaulting would ruin their credit and have other negative consequences, so they will continue to make their mortgage payment and hope for the best.

However, that's not the end of the problem. The real estate market depends on such homeowners being able to sell and move up; without them the trade-up market can't grow. These homeowners will delay that new roof, depriving a local roofer of business. They're unlikely to redecorate or upgrade the kitchen either, as millions of families were doing before the recession – more potential losses for local businesses, not to mention the car dealers, clothing and consumer electronics stores and manufacturers of the products that the family won't buy. Weighed down by the huge debt on their house, they also will be a lot more cautious about how they use credit cards and postpone taking vacations.

This is the case of millions of homeowners across the country and that translates into less private spending, which accounts for 70 percent of the American economy.

In prior downturns, the housing industry and consumer spending powered the economy back to strength. Home building not only created construction and finance jobs but also fueled manufacturing of glass and lumber, furniture and appliances, and a host of other goods and services.

In normal times, the U.S. should be putting up about 1.7 million new houses annually, but this year it's running at about 600,000, economist David Crowe of the National Home Builders Association said. He thinks it will be three years before home building returns to its potential.

Rather than going out on their own or starting families, young Americans are doubling up with friends and relatives, saving more and paying down debts. Older Americans are staying in their jobs longer, hoping that the single biggest asset for most of them, their homes, will recover in value.

Refinancing in order to take advantage of today's lower interest rates could be a big help to families with underwater mortgages, but lenders won't even consider them. And unless borrowers fall behind on their mortgage payments or face a high risk of defaulting, there's little chance that lenders, even with federal incentives, would reduce their principal or lower their interest rates.

"They feel completely left out," said Fred Arnold, past president of the California Association of Mortgage Professionals, referring to many underwater borrowers. "If you stop payments, you have a much better chance of getting a modification," he said.

Arnold contends that the federal government should set aside funds to help more borrowers refinance: "It would put immediate money into the economy." But with budget deficits weighing on Washington and the American public, that's not likely.

Eventually, economists suggested, a lack of options will push more underwater borrowers to walk away from their mortgages. But in the meantime, the stress on families, the housing market and the whole economy will continue.

Information from an latimes.com November 1 article.