Foreclosure Lending Subprime

Foreclosure, lending, subprime mortgages, and borrowing are all topics in the news lately. How does all of this fit together and should we really be surprised when subprime loans end up in foreclosure?

Foreclosure, lending, subprime mortgages and loans, they all fit together well, like pieces of a puzzle. These topics are all interrelated and they are dependent on one another. When you consider the definition of a subprime lender or borrower, should we be surprised that there is a high foreclosure rate on subprime mortgages? Let us look at the facts and see if this really should have been a surprise at all.

By definition a subprime borrower is a person who has a higher risk of default due to past credit problems. A subprime lender is an institution that will lend money to questionable borrowers for a higher interest rate. The higher rate is charged due to the higher default risk. The key here is higher default risk. Lenders in the subprime arena know that these borrowers are more likely to default on a loan. So then why the surprise when it happens? If you play with fire, eventually you get burned.

Now we know how the subprime, lending, and borrowing fit into the puzzle but what about the other components? Good question. There is a lot more to this. It was a combination of bad and questionable lending practices combined with a clientele of high-risk borrowers that propelled us into this mortgage crisis. Foreclosures are at an all time high and it is not one parties fault entirely. Here is why.

Foreclosure happens when a borrower gets behind in their mortgage payments. Usually, if you become 3 months in arrears, the bank starts the foreclosure process. It is an expensive and drawn out process that can take months to complete. When the borrower cannot make the payments, foreclosure occurs and the bank repossesses the property.

Banks are in the business of money. They lend money and they offer deposit accounts. They are not in the business of buying and selling real estate. In addition, if they reach too high a percentage of defaulted loans, they run into trouble with the Federal Government. So many of them take their time with foreclosures. They do not want the property; they want the borrower to pay the loan.

Lending is the process of individual or business borrowing money from another individual or business at a prescribed interest rate over a specified period of time. For example a 30 year fixed rate loan at 5.7% APR (annual percentage rate) is a very traditional type of loan. It means that the borrower will pay back the loan over 30 years at an annual interest rate of 5.7%. Very simple to understand. Most subprime loans are not this simple as lenders got very creative in order to attract more borrowers.

Here is what many people have now. An ARM or adjustable rate mortgage. Some of these had a very low rate that allowed them to get into a loan they would otherwise not qualify for. Then they reset in a year or two and the rate can go up significantly. Many of these loans also did not allow for refinancing within the first few years.

Real estate markets changed, prices dropped, mortgage payments went up, mortgages became harder to get, few buyers and many houses for sale, and now we have a mess. This is how foreclosure, lending, subprime mortgages and borrowers all fit together.