The most recent example of the State of Michigan’s economic stupidity is exemplified by the professional jobholders supposed solution to a forecasted drop in tourism for the coming season.  The projected downturn in tourism has been predicted due to the following.

Michigan’s unemployment rate, 7.2 percent in February, was the nation’s highest…

The housing crisis has hit Michigan harder than many states, which will cause some consumers to cut back on travel. And gasoline prices are relatively high, a factor in travel prices that are projected to be about 3 percent to 4 percent higher this year.

The tough economic times likely will lead to reduced travel as people cut back on discretionary spending, the report said.

So what does the State of Michigan propose to boost tourism?

The state may attempt to counteract some of the economy’s negative effects on tourism through more advertising.

Gov. Jennifer Granholm has proposed increasing funding for business and tourism marketing by $60 million over two years. Current funding is about $15 million per year after an increase in 2006.

Spending tax dollars, money filched from every Michigan individuals’ pocket, on advertising the State of Michigan as a tourist destination is NOT a solution.  If the State of Michigan professional jobholders actually wanted to increase the possibility of individuals traveling to Michigan, instead of spending filched money on advertising, they should eliminate the state’s gasoline tax so the individuals they propose to advertise to could instead afford to get in their cars and drive to the Great Lakes State.

Report: Michigan Tourism to Decline

Bitner was a partner in a subprime mortgage wholesale company, and, while I have not read his entire book, and do not own it (even at a used price at Amazon they want $19.95), I have read Chapter 1, which you can also read here (see link at this site for pdf format download).

I stumbled upon news of Bitner’s book via The Dallas Morning News.

Maybe individuals who are reading Bitner’s words on this subject, will be interested in reading my input which begins here in 14 parts.

As I mentioned when I first started posting this series on subprime lending, I first got into the mortgage business in 1987.  The corporation I began with was a small, four (4) man mortgage broker shop, writing strictly “A” paper, prime, mortgage loans.  In 1989, I became a partner in this closely held corporation, and we grew the company into a full FNMA/FHLMC seller/servicer.  Meaning, instead of selling our loans off to larger lenders, brokering, we now held our loans and our customers made their monthly house payments to our corporation.  Additionally, we created a wholesale lending division wherein we marketed our corporation to mortgage brokers who now sold their loans to our company, we also serviced these mortgage loans.

I sold my interest in this corporation in January 1995.  At that time we had over one-hundred and twenty (120) employees and sales of just under one billion.  It was a profitable venture.

After selling my interest in this company, I originated loans for a short period of time for a smaller mortgage lender which folded not long afterward.

Upon the closing of the previously mentioned shop, in 1997 I marketed my mortgage talents to an individual with no mortgage experience who desired to startup a new mortgage broker business, on a contract basis.  I remained with this small broker for two and one-half years.  The first full year with this company was dismal, but in the last year we had sales of forty-one (41) million.  It was when I was with this company that I first originated and closed a subprime loan.

After this venture, I spent the years of 2001 through 2003 in the banking software industry.

In 2004, I joined Countrywide’s Full Spectrum Lending Division, Countrywide’s subprime lending behemoth.  I initially filled the position of assistant branch manager for this organization, and six months later I was made branch manager.  It was while with this national company that I saw just how deep the rabbit hole went in subprime lending.  Though I was initially impressed with Countrywide’s ethical statements regarding lending to subprime borrowers, I soon formed the opinion that this was mere window dressing.  I did not mesh well with this organization.  I attempted to have my staff facilitate prudent subprime lending, i.e. making my people correct bad debt issues which the company’s underwriting guidelines stated did not need correction, not pushing borrowers’ debt income ratios, etcetera.  Because this conflicted with the company’s volume goals, I was asked to resign in mid 2006.  Which I did.

I still think subprime lending could be a viable and profitable business concern, if done ethically, and with sound underwriting.

The collapse of the subprime lending industry was self inflicted.  It did not have to be that way.  For many subprime borrowers, the preceding statement is also valid, except the end result was personal financial collapse.

The stage was set for the collapse of the subprime lending industry with the origination of the individual subprime loan underwritten to foolish; one could say incompetent; underwriting guidelines.  As more and more of these structurally deficient loans piled up in lenders’ servicing portfolios, to be mined again and again for any remaining equity subprime borrowers may have retained in their homes, the swiftness of the final collapse lacks any astonishment.  The subprime lending business model was fundamentally flawed and myopic.

Subprime lenders had an opportunity, when lending to subprime borrowers, to build long term lending relationships, and sound, profitable performing loan portfolios, but instead subprime lenders chose to follow a path of what could be considered as mutually assured destruction.  Subprime lenders, investment houses which purchased subprime loan mortgage backed securities, and subprime borrowers, opted for quick cash rather than sound, long term financial stability.

It does not require a degree in economics, or personal financial, to understand that when you write mortgage loans, to marginal borrowers, and do nothing to but give lip service to the necessity of paying your creditors on time, or satisfying past due debts, that you are simply applying a rotten bandage to an already festering wound, thus facilitating further infection.

These risks could have easily been mitigated by the subprime lending industry by requiring subprime borrowers to adhere to stricter lending standards, i.e. by requiring subprime borrowers credit issues to be corrected, rather than ignored, and by utilizing sound debt to income ratios.  Instead, subprime lenders took the short view, throwing good money at bad borrowers in order to book loans.  And as subprime lenders continually stripped subprime borrowers’ home equity, while allowing subprime borrowers to remain high credit risks, with debt to income ratios which were beyond their financial means, the industry collapsed.  If the subprime lending industry would have practiced sound lending and underwriting, actually correcting subprime borrowers credit issues, while at the same time lowering subprime borrowers monthly debt expenses, which was possible, subprime lenders could have built strong loyalties with their borrowers, and sound mortgage loan portfolios.

Would subprime borrowers have complained about the need to pay off bad debts, rather than receiving some cash in their pockets?  No doubt they would have.  Would the over the top profit margins subprime lenders grossed on each subprime loan been reduced by sound underwriting guidelines which would have required bad debts be satisfied as a condition to lend new money.  Without a doubt.  But requirements such as these would have been short time losses in exchange for long term investment profitability.  Both parties would have gained.

Instead, today, the foolishness of the subprime lending industry has spilled over into all aspects of the credit lending industry as a whole, and into individuals’ homes.  The goose which many thought was laying the golden egg was actually defecating, and the mess which this has created is not easily cleaned up.

Out of nowhere, or so it seemed, the United States of America developed a mortgage and credit crisis. It is now and will be forever known as the “Subprime Mortgage” crisis. The fact that very little of it had to do with the Subprime Mortgage Business is irrelevant and will not be delved into in this column.

Roger, from his “front row seat,” seems to think the subprime mortgage industry had “very little” to do with the current very tight and limited availability of credit.  That statement is just wrong.  The foolish lending standards which had been utilized in the subprime lending industry was the catalyst for the collapse of the industry, which then bled over into the prime lending industry.

Roger then throws out this digressive statement, because he couldn’t resist.

One small note: (I can’t resist) the option arm is not a subprime loan. The two biggest lenders featuring the option arm were Countrywide and Washington Mutual. Although both had subprime division I do not believe that the option arm was offered by either of these divisions. But I digress.

While the option ARM was technically not a subprime loan, I can state, unequivocally, that Countrywide’s subprime lending division, Full Spectrum Lending, did indeed offer the option ARM to borrowers.  I cannot state this unequivocally about Washington Mutual, but, my money would wager that their subprime division offered the option ARM also.

Further into Roger’s piece he notes Congress’ push for FannieMae and FreddieMac to get in there and assist in stablizing the mortgage market and writes the following.

They were given the area between $417,000, the current conforming loan limit, and $729,750 to work their magic with the new loans that now and forever more will be known as jumbo/conforming loans. Everything was in place to bring us out of the “Subprime Mortgage” crisis.

This supposed assist from Congress was also just foolishness.  Look at those loan limits noted above.  Less than five percent (5%), and most likely less than that, of individuals living in this country could/can afford mortgages of those amounts.

Towards the end of his piece, Roger states this.

We have a serious problem stemming from the crisis caused by a multitude of bad loans and now being fueled by ever growing pessimism in the lending industry.

We do have a “serious problem stemming from the crisis caused by a multitude of bad loans,” and the vast majority of those loans originated in the subprime lending industry.  Sure, government meddling in the lending industry as a whole, has exacerbated the problem, but, the root of the problem, the kernel from which it grew, was the subprime lending industry.

The majority of subprime loans, eighty percent (80%) or more, written over the years were written with prepayment penalty clauses.  In the prime lending industry, less than two percent (2%) of mortgages written were/are subject to prepayment penalties.  During my over ten years of writing prime, “A” paper, mortgages, I never once encountered a prime loan with a prepayment penalty.

These prepayment penalty clauses required borrowers who had taken out a subprime loan to pay a penalty fee of anywhere from one percent (1%) to five percent (5%) of the mortgage amount if they paid off, refinanced, their subprime mortgage early.  There were also prepayment penalty clauses written which required up to six (6) months of interest be paid to the lender if a subprime loan was paid off early.  Prepayment penalty clauses of this type were the most onerous for subprime borrowers.  On a mortgage amount of $100,000.00, at an interest rate of eight percent (8%), the prepayment penalty for early payoff would amount to almost four thousand dollars ($4,000.00).

Prepayment penalties could run anywhere from one (1) year to five (5) years on subprime loans.  Since the majority of prepayment penalty terms ran concurrently with the type of subprime loan written for borrowers; i.e. if a subprime borrower financed with a 2/28 adjustable rate mortgage (ARM), the prepayment penalty was in effect for two (2) years, if the loan was a 3/27 ARM, the prepayment penalty was in effect for three (3) years; most subprime borrowers who desired to refinance out of their current subprime ARM, prior to their payment adjusting, and payments in most cases would adjust upward, paid a prepayment penalty.

Subprime lenders’ advertising typically trumpeted the following message to borrowers – Bad credit, no credit, no problem, we can refinance your home, lower your monthly payments, and put cash in your pocket to boot.  The fact of the matter was, subprime lenders usually could do exactly what they were advertising they could do.  Pay off some of your debt, and put cash in your pocket too.

Borrowers who had a low credit scores (see Chapter 10), or low credit grades (see Chapter 9), or both, and at least ten percent (10%) equity in their current home, in all likelihood could qualify for a subprime loan.  The dilemma for borrowers considering such a deal was would there be more than just a short term benefit to them?  Or, would the benefit of refinancing with a subprime loan simply evaporate before the new mortgage was recorded at the local county clerk’s office?

There were real and quantitative benefits to utilizing a subprime loan to refinance your home, if you were in troubled financial straits and had sufficient equity in your home which a subprime loan would allow you tap.

It was not unusual for a subprime lender to reduce borrowers’ monthly outgoing payments by two to three hundred dollars ($200.00 - $300.00) per month, and an extra $200.00 to $300.00 dollars in your hand each month could and can go a long way.  Additionally, in many subprime loan refinance transactions, the borrower would walk away with money in their pocket.  What’s not to like about that?

One of the issues not to like about the above scenario is what was not being said to subprime borrowers.  What, in the vast majority of cases, was not being said to subprime borrowers was that they were going to remain subprime borrowers unless they got off the misuse of credit gravy train and began living within their means, and subprime lenders only gave the merest of lip service to this fact, because this fact did not sell subprime mortgages.  But what was not being said, and what was being ignored by subprime lenders, did set the hook for the possibility of future refinances.

In addition to credit grades, which were discussed in the previous chapter, credit scores were also considered in subprime lending, though subprime borrowers’ credit scores were not as heavily weighted as the credit grade when subprime lenders set loan-to-value limitations.

What, exactly, is a credit score?  A credit score is a computerized, statistical method of reviewing an individual’s credit usage.  The computerized review of an individual’s credit trade lines generates a credit score for each individual credit user, and the most commonly recognized credit score is known as the “FICO” score.

Both prime and subprime lenders consider credit scores to assist them in making either a yes I will lend to this person, or no I will not lend to this person, decision.  Credit scores can range between three hundred (300) and nine hundred (900), though the lowest credit score I personally ever noted was 417.

Needless to say, the higher your credit score, the more apt you are to be approved for a loan, and the more attractive interest rate you will receive from the lender.  If your credit score is below five hundred (500) though, don’t bother contacting any subprime lender, because with a credit score below 500 you will not qualify for a mortgage.

The credit scoring technology utilized today is attributable to Fair Issac and Company; this is where the term “FICO” arose from; and the majority of mortgage lending institutions, including banks and other financial entities such as insurance companies, utilize the software and scoring methods developed by Fair Issac and Company to determine individual credit scores, and utilize this score as part of their decision making process.

The subprime lending industry graded potential borrowers with one of four grades.  Borrowers were either “A” borrowers, “B” borrowers, “C” borrowers, or “D” borrowers, though there were minor variations from subprime lender to subprime lender in this grading system.  “A-” or “C-” grades were also a possibility, and these grades were dependent upon whether the borrower had “rolling” 30 day late payments on their most recent twelve (12) month mortgage payment history.  No matter what your grade was though, the subprime lender probably had a “deal” for you.

A subprime borrower who received an “A” grade had no thirty (30) day late payments in the past twelve (12) months of their mortgage payment history.  “A” grades could also carry a loftier name such as “Premier Plus,” or other feel good title.  Some subprime lenders also gave “A” grades to borrowers who did have one thirty (30) day late mortgage payment in the past twelve (12) months, though the interest charged on the loan would have reflected the fact that the borrower paid one mortgage payment thirty (30) days late.  A subprime borrower who had received an “A-” grade has had two (2) thirty (30) day late payments in the past twelve (12) months of their mortgage payment history, which could include rolling thirty (30) day late payments mentioned above.

Rolling late payments, as defined by the subprime lending industry, were simply mortgage payments made thirty (30) days late a number of months in a row.  For example, if a borrower had made their mortgage payment thirty (30) days late for up to six (6) consecutive months, it only counted as one (1) thirty (30) day late payment when it came time to be graded.

A subprime borrower who had received a “B” grade had one (1) sixty (60) day late payment on their mortgage in the past twelve (12) months.  A “B” grade was also assigned to subprime borrowers who had made three (3) thirty (30) day late mortgage payments in the past twelve (12) months.  For example, if a subprime borrower made their mortgage payment thirty (30) days late for the month of January, and then paid the mortgage on time for the months of February and March, and then made the April mortgage payment thirty (30) days late, but once again paid the May and June mortgage payments on time, and then paid the July payment thirty (30) days late, would also receive a “B” grade.

In the arena of subprime lending, though the borrower’s ability to repay a mortgage was reviewed, underwritten per the subprime lender’s guidelines, the value of the borrower’s property, the property’s appraised value, played a more prominent role than the borrower’s ability to repay the mortgage.

Subprime lending risk assessment was heavily weighted to what is called the loan-to-value ratio of a borrower’s property.  The loan-to-value ratio is simply illustrated this way.  If you own a home that is appraised at $100,000.00, and you borrow $80,000.00, with your home as collateral, your loan-to-value ratio is eighty percent (80%).  If you borrow $90,000.00 against your $100,000.00 home, your loan-to-value ratio is ninety percent (90%).

Though appraisals have always played an integral part in any mortgage loan application, whether for a prime loan, or subprime loan, the lack of creditworthiness on the part of subprime borrowers made the appraised value of a property in the subprime lending field, much more important than in the prime lending field.  In fact, in the subprime lending field, the appraised value of a property could hold the golden key to make or break a potential deal, and this fact led to the distinct possibility of a property appraisal being manipulated, so the golden key could turn in the lock to release cash which could be dropped into a subprime borrower’s pocket.

Why was the appraisal so integral in the subprime lending industry?  Because subprime borrowers’ loan- to-values, how much they can borrower against their homes, were limited by the borrower’s individual credit score and grade.  If a borrower’s credit score was high, basically 620 or above in subprime lending, they could borrow up to one-hundred percent (100%) of the value of their home.  If the borrower’s credit score was exceedingly low, a credit score of 500 was the cutoff point in subprime lending, they could only borrow sixty-five percent (65%) of the value of their property.  Thus, the lower the borrower’s credit score, the higher the probability an appraisal with a possibly artificially high value would be required to put together a deal that the subprime borrower would be willing to go for.  Remember, the promise of cash in a borrower’s pocket was one of the biggest motivators for borrowers in subprime lending, and if an artificially high appraisal was at times required to make this happen, well, then it could happen.