As adjustable mortgage rates click upward, a Kentucky family is one of thousands forced from their dream homes and into the nightmare of foreclosure
How did the Howells' dream home turn into a financial nightmare? They are just two of thousands of homeowners caught in the double bind of rising adjustable mortgage rates and falling home values. For this family, like many others, the numbers got bleak fast. The monthly payments on the Howells' two adjustable-rate mortgages started at $1,100, with a 5.4 percent interest rate (Howell says he needed two mortgages to qualify for the amount necessary to buy the house). But after Shawn returned from Iraq in 2006, the family's interest rate jumped to 9.9 percent—a surge he says he knew was possible but nonetheless took him by surprise...according to RealtyTrac's data. That's one foreclosure filing for every 92 U.S. households.

Newsweek
This Is Not My Beautiful House
As adjustable mortgage rates click upward, a Kentucky family is one of thousands forced from their dream homes and into the nightmare of foreclosure.

 March 28, 2007 - Nearly three years ago, Shawn Howell and his wife, Niki, paid $217,000 for a three-bedroom, 2,000-square-foot house in an upscale subdivision in Louisville, Ky. Today they live in an $18,000 Fleetwood mobile home on a small lot, struggling to undo the damage done to their credit from a foreclosure. "It's a big lifestyle change," says Howell, 37, an Iraq War veteran who works in human resources for the Kentucky National Guard. "I feel like the kids are cooped up inside. You don't have the space to be able to go outside and play. It's disheartening."

       
          Erin Patrice O'Brien for Newsweek
         Howell and his family in front of the home they
          lost to foreclosure last year

How did the Howells' dream home turn into a financial nightmare? They are just two of thousands of homeowners caught in the double bind of rising adjustable mortgage rates and falling home values. For this family, like many others, the numbers got bleak fast. The monthly payments on the Howells' two adjustable-rate mortgages started at $1,100, with a 5.4 percent interest rate (Howell says he needed two mortgages to qualify for the amount necessary to buy the house). But after Shawn returned from Iraq in 2006, the family's interest rate jumped to 9.9 percent—a surge he says he knew was possible but nonetheless took him by surprise.

Their monthly payments ballooned to more than $1,400. Making matters worse, he lost the extra cushion of combat pay. Despite working two jobs, Howell couldn't make the new, higher payments. In August, he spoke to NEWSWEEK about his attempts to sell the house and avoid having his credit devastated. But because of the softening real-estate market in his area, Howell couldn't get as much as he had paid for their home, and he ended up being forced into foreclosure proceedings late last year. The experience has left him bitter. "I feel like I was preyed upon, and I feel like there were a lot of people who were preyed upon," says Shawn Howell. "They let people believe that, 'Hey, you can afford this.' All of the sudden, they smack you with the interest ... It's kind of like a dirty car salesman." (His lender, Countrywide Financial, declined to comment on his case, citing privacy concerns.)

The Howells aren't the only ones feeling squeezed. More than a million Americans are expected to face foreclosure this year. Last month, foreclosure rates jumped by 12 percent over February of last year according to a report out this week by the research firm RealtyTrac. And in 2006, the number of foreclosure filings rose to 1.26 million—up 42 percent from 2005, according to RealtyTrac's data. That's one foreclosure filing for every 92 U.S. households. On Wednesday, Federal Reserve Chairman Ben Bernanke told Congress that troubles in the subprime mortgage market raised "some additional questions about the housing sector." But Bernanke told the Joint Economic Committee that "at this juncture … the impact on the broader economy and financial markets of the problems in the subprime markets seems likely to be contained."

 These foreclosures affect neighborhoods—and kids. In the case of Shawn Howell, the loss of his home has changed his family life dramatically. He and his wife now live with their 5- year-old and 2-year-old. When they were in the big house, Howell's two older kids from a previous marriage (ages 13 and 11) lived with them. Now those children live with their mom since space is so tight in the mobile home. The ripple effects of a foreclosure go far beyond a ruined credit rating. "It's children being uprooted from schools, it's marriages being strained, it's retirement being postponed," explains Margot Saunders, a senior lawyer with the National Consumer Law Center.

 One big reason for the jump in foreclosures is the proliferation of "hybrid" adjustable-rate mortgages (ARMs) with tricky interest rates and conditions. Consumer advocates call these loans "exploding ARMs" because of the dramatic way their interest rates increase after an initial two-, three- or seven-year period of low-interest "teaser" rates. Too often consumers fail to realize that interest rates can jump by as much as 40 percent after the two or three teaser years end. The terms of these loans are often incredibly complicated. "I couldn't keep up with the jargon," explains Howell. "It should be just cut and dry. It shouldn't be any of these three-legged, one-armed mortgage loans." The other problem is that many borrowers only qualified at the low introductory enticement rate but wouldn't qualify at the new higher level. "They enter payment shock. This was not anything they were anticipating," says Sharon Reuss of the nonprofit Center for Responsible Lending. "It's not our parents' mortgage market. It's very, very sophisticated."

The hardest hit: Americans with less-than-perfect credit scores, who didn't qualify for prime-rate loans and instead got subprime mortgages at higher interest rates. And an increasing portion of subprime borrowers are getting adjustable morgages. According to a report by Fitch Ratings, about 81 percent of all subprime loans were adjustable in 2006. That's up from about 64 percent in 2002. Five percent of homeowners have the double risk of a subprime and adjustable-rate mortgage, according to the Mortgage Bankers Association.

 "Subprime lending by nature is lending to riskier borrowers, and therefore the interest rates are higher to compensate the lender for that added risk," says Greg McBride, senior financial analyst at Bankrate.com. "By their nature, subprime loans are riskier, and the borrowers are more likely to default. The problem in the marketplace now is that the lenders who didn't adhere to traditional practices—things like documenting income, requiring a down payment, looking at debt ratios—are running into problems now. That's like driving a car without ever looking out the windshield. The problem isn't with subprime lending per se. The problem is when you make a subprime loan and lend them every nickel they need and don't document income, you're asking for trouble." The Center for Responsible Lending's December report, "Losing Ground," estimates that one out of five subprime loans that originated in the past two years will end in foreclosure.

Another problem: borrowers thought too big. "People got away from the idea of a starter home," says McBride. "A lot of these creative financing options gave people the opportunity to buy the dream home now, and they jumped at it. They didn't give sufficient consideration as to whether or not they'd be able to afford that dream home three years later when interest rates shot up." The Howells and families like them are suffering because their payments have started to rise just as home appreciation stopped. (Certain regions have been hit with lower home prices, but this week, there was particularly bad news on the national front. A Standard & Poors report indicated that U.S. home prices were down in 10 major cities by .7 percent year over year. It was the largest drop in more than six years.)

"We had a period where home price appreciation was far above normal," says McBride. "Borrowers graduated toward risky mortgage products that allowed them to buy more than they could truly afford, and they did that at a time when interest rates were at record lows. Everybody wants a big house. Who doesn't? But at the end of the day, as a borrower, you have a responsibility to assess, can I truly afford the payments, not just today or tomorrow, but later if circumstances are less than ideal." If you rely on two incomes, think about what happens if one spouse gets sick or laid off, he says.

 Like many Americans in the subprime market, Howell bought his house without a downpayment. Still, the monthly tab on the new three-bedroom home seemed within his means, and home prices seemed to be endlessly appreciating. When he was first deployed to Iraq, his combat pay helped with monthly mortgage payments. The Servicemembers Civil Relief Act capped his mortgage at 6 percent while he was in active military service. But when he finished his Iraq tour in January 2006, the cap was off, and he stopped getting combat pay. His old job was no longer available, so he ended up earning less money while working more hours. He got $350 a week as a stable manager for a horse farm and $9.87 an hour as a dispatcher for the Kentucky Department of Fish & Wildlife. "It's not like I'm an irresponsible person," he says. "I'm not a guy that sits back." By March, Howell's monthly mortgage bill jumped to $1,400. USA Cares, which helps service members, paid one month of their mortgage. But the Howell still couldn't keep up with penalties, late fees and the mortgage itself. The foreclosure notice arrived.

 Often people on the brink of foreclosure don't realize they can turn for help to nonprofit groups. "We consider ourselves the emergency room," says Colleen Hernandez, president of the three-year-old nonprofit Homeownership Preservation Foundation. People may still lose their homes, but the foundation can help them avoid foreclosure. That way, they can keep their credit ratings high and can get back onto their feet after a temporary setback like the loss of a job. She urges people to call their number, 888-995-HOPE, as soon as they think they're going to lose their homes.

 Consumer protection groups want legislative action. "Change the legal environment so these kinds of loans aren't made in the future," says Saunders of the National Consumer Law Center. Too often banks told people a mortgage was good for them—without considering whether they could really pay for it, she says. A bank should be forbidden to make a loan without evaluating whether someone can make payments after the teaser interest rate adjusts. "The evaluation of the consumer should be based on the maximum possible payment," she says. Instead of giving loans based on a prospective borrower's "stated income," lenders should be required to see proof through pay stubs, she says. Without this proof, it's too easy for anyone (a borrower or a lender) to lie.

 New legislation may be in the works. Chris Dodd, chairman of the Senate Committee on Banking, opened a hearing on predatory mortgage lending last week by vowing to push for better protection for borrowers. "Our nation's financial regulators were supposed to be the cops on the beat, protecting hard-working Americans from unscrupulous financial actors," he said at the hearing. "Yet, they were spectators for far too long. Risky exotic and subprime mortgages—all characterized by high payment shocks—spread rapidly through the marketplace. Almost anyone, it seemed, could get a loan. As one analyst put it, underwriting standards became so lax that "if you could fog a mirror, you could get a loan."

 Meanwhile, families who've already been hit with foreclosure are trying to rebuild their lives. Howell loves his job as a full-time human-resources specialist for the federal government. He deposits his paychecks in a credit union but otherwise steers clear of banks now. With a foreclosure on his record, his credit is shot. And besides, he no longer trusts banks. "They took advantage of me," he says. "The big corporate banks and big corporate America has lost touch with the people that drive this country ... It's all about the end result, the high dollar in their pockets."

 Typically it takes people seven to 10 years to regain home ownership after foreclosure. Howell knows the odds are stacked against him. But he dreams of saving enough money to buy a log-cabin-style house some day. "I'm not going to stay put in this [trailer home] forever," he says. "I'm always looking ahead."