When Lending Guidelines Loosened - The Beginning of Our Current Problems

As the 2000’s progressed and property values skyrocketed, many banks loosened their lending guidelines to boost the economy. Banks began to allow 50 percent to 60 percent of your income to be used toward a mortgage payment. Most banks offer an 80 percent first mortgage and a 20 percent second mortgage to total what you are borrowing.

For example, if you are borrowing $200,000, you might get $160,000 on a first mortgage and $40,000 on a second mortgage to total $200,000. By borrowing 80 percent on a first mortgage, the banks lessen their risk if you were to default. The riskiest part of a loan is the top 20 percent. If the bank takes the house at the foreclosure sale, it might lose the 20 percent second mortgage, but would recoup the 80 percent first mortgage by selling the house at the sale or by selling the house later via a real estate agent.

Typically, when you have a first mortgage and a second mortgage, the interest rates are different:

• The first mortgage offers lower interest rates, typically has less closing costs, and is a 30-year loan. Based on good credit, you might pay a 6 ½ percent interest rate and pay two points. A “point” is one percent of what you borrow. On a $100,000 house with one point, you would pay $1,000 toward closing costs.


• A second mortgage usually has higher interest rates, more closing costs, more points, and is a ten-year loan. You might pay nine percent interest and have four points at the closing. If the banks give enough second mortgages, they make a lot in points and interest, and it offsets the mortgages they lose in foreclosure.