Refinancing Still Difficult Despite Low Rates
Across the blogosphere, pundits and financial advisers are baffled by the failure of borrowers to take advantage of unprecedented low rates and refinance their mortgages: “There are quite a few mortgages that are in the money, meaning they are well within the zone where refinancing makes sense. Given where rates are right now, refinance activity should be quite a bit higher than it is.” Low rates, goes the logic, won’t last forever, and eligible borrowers would be wise not to delay in refinancing their mortgages.
According to a recent report in the Washington Post, however, the fall-off in refinancing applications has little to do with borrower sloth, and everything to do with lender standards and housing market conditions. It’s not as if borrowers are sitting at home biding their time in the hopes that rates will fall still further. On the contrary, a steady faction has continued to seek out refinancing, but a greater proportion is being rejected. According to one lender, the rejection rate has risen from 5% to 25%. The main reason for this trend: the decline in housing prices.

On the surface, one wouldn’t necessarily expect the housing market to significantly affect mortgage refinancings. After all, the two are hardly related, right? Demand for refinancing is a primarily a function of interest rates, and shouldn’t depend on housing prices. However, the recent downturn in prices was so severe that many borrowers no longer meet the basic 20% minimum home equity threshold stipulated by lenders. Anyone who bought in the last five years with a minimal down-payment is probably nowhere near 20%, and may in fact be below 0%. So-called underwater borrowers have no chance of being approved for a conventional refinancing, even with a perfect credit score.
For such borrowers, the only alternative is to buy private mortgage insurance (PMI), and/or rollover a previous PMI to a new (refinanced) mortgage. Why isn’t everyone rushing out to do this? The answer is that it’s prohibitively expensive, requiring both a hefty upfront premium as well as annual payments. Given the uncertainty over housing prices, PMI premiums are rising, and borrowers are balking at committing to paying a premium indefinitely (since there’s no guarantee that one’s equity will return to 20% – at which point insurance is no longer required). The bottom line is that when PMI is factored in, refinancing no longer makes financial sense for anyone whose current mortgage rate is below 6%.
It’s ironic that now that many borrowers legitimately need a refinancing (as a result of the economic recession), they are unable to get one. The federal Making Home Affordable Refinancing Plan was unveiled to address this issue, but it lacks traction; to date, only 200,000 borrowers have been approved through the program, much less than the 5 million borrowers that were initially projected. The program is slated to expire in June.
Don’t let this pessimistic report discourage you. If your current interest rate exceeds 6%, you should still think about applying. [You can use our Refinancing Calculator to estimate savings]. Just maintain realistic expectations, and keep all of your options open.



