Many Hurt as Adjustable Loan Payments Soar

Steven Doi’s American dream is giving him headaches. Thanks in part to a 15% increase in telecommunications equipment salesman and his wife postponed buying a new car. They also don’t eat out as much and are scaling back vacations.

“We’ve made a number of sacrifices,” he said.

Doi is among millions of Americans feeling the pinch of higher payments on adjustable rate mortgages and home equity loans because recent sharp rises in interest rates have pushed up monthly bills by hundreds of dollars per household. Mortgage payments have become the No. 1 household financial concern in America today, overriding fears of inflation, medical bills or taxes, according to a national consumer survey to be released today by the International Assn. for Financial Planning and conducted by the Gallup Organization.

One in five consumers ranks mortgages as the top money concern, nearly double any other worry.

The pinch may become worse in the next two or three months as many people who bought homes in the traditional spring and summer peak buying periods are likely to see another annual adjustment in their monthly payments. Some who bought homes two years ago with adjustable rate mortgages may see their monthly mortgage bills rise to as much as 40% over the levels they started with.

As a result, some homeowners--particularly those who bought in 1987 or 1988 and whose rates are rising the most--are responding by reducing purchases of consumer goods or cutting savings. Part of recent declines in the growth of consumer spending is undoubtedly due to rising mortgage payments, although how much no one knows for sure, said John A. Tuccillo, chief economist for the National Assn. of Realtors.

Fortunately, the impact has been mitigated by a recent slowing in the trend to higher rates. Another moderating factor has been “caps” on adjustable rate mortgages that limit rises in interest rates or monthly payments.

Could Trigger Recession

But, if rate rises resume dramatically--and some economists are not dismissing that possibility--it could increase the chances of an economic recession, possibly the first triggered in part by rising mortgage payments.

In the past, rising interest rates have helped cause recessions by killing off demand for home purchases, thus shutting down new housing construction. The slowdown in housing demand has secondary effects that ripple through the economy.

Already, there is evidence of a slowdown in new home construction, and higher rates and home prices have sparked a drop in sales of new and existing homes.

If rising adjustable rate mortgage rates were to help start a recession, it would be a testament to how fast those adjustable loans have grown in recent years. It would also demonstrate the risks of the widespread practice of granting borrowers artificially low introductory “teaser” rates on the loans.

Buyers--particularly in last year’s frenzied housing market--turned in increasing numbers to adjustable rate mortgages as the only way to avoid being priced out of the market. Adjustable mortgages now account for just over half of all new first-mortgage loans nationwide, up from virtually nothing a decade ago. With teaser rates of 7% or so early last year, such mortgages allowed buyers to qualify for much bigger loans than they could receive through traditional fixed-rate financing.

But, today, most of the six-month teaser periods on those 1988 loans have ended. Many of the loans have already risen by 2 percentage points, the maximum allowed under “caps” that limit how much rates may rise in a given year and over the life of the loan.

For example, a homeowner who took out a $150,000 30-year adjustable rate mortgage starting at 7% two years ago may have seen his rate rise to 9% last year and 11% this year. That would raise his monthly payment to $1,417 from $998--a 42% increase, said Pete Mills, senior research analyst at the California Assn. of Realtors.

Those low teaser rates are being recognized by many lenders as increasing their risks. Profits could be squeezed should the rates that lenders pay for money rise faster than the rates they receive on loans. And some homeowners, labeled “teaser junkies,” have been refinancing old adjustable rate mortgages with new ones with lower teaser rates, perpetuating the risk.

Fortunately for California homeowners, the impact of rising adjustable mortgage rates has not been as severe as in the rest of the nation. That is because a higher proportion of such mortgages here are tied to the so-called 11th District cost of funds index (that is the district of the Home Loan Bank that covers California), a measure that moves up much slower than the index tied to one-year Treasury bill rates, which is used more frequently nationwide.

Also, many adjustable rate mortgages in California have caps that, instead of limiting the annual rise in rates, limit the rise in monthly payments, usually to 7.5% a year. That is far less than the 20% annual rise in payments that can result if a loan rate rises by the 2 percentage points allowed under a rate cap.

Also benefiting California homeowners is the sharp rise in home prices. The median price of a home here has risen about 45% in the last two years, far higher than the 9% jump nationwide. That has made consumers more determined to keep up house payments, rather than lose their homes through foreclosure. Foreclosure rates have remained flat in California and nationwide in recent months, analyst Mills said.

Rising incomes can also offset some of the impact. Greg Carron, vice president of a vending-machine and distributing company in San Diego, said his income has risen more than enough to offset a rise in his monthly mortgage payment from about $1,100 to $1,300 in the last 18 months. Also helping him is a near doubling in the value of his La Mesa home in five years.

“I haven’t had to cut back on spending,” Carron said. “My income’s gone up more than the increase in my payment.”

Nonetheless, millions of other homeowners are worried, according to the survey by the International Assn. of Financial Planning, an Atlanta-based trade group representing financial planners.

The survey of 1,000 households nationwide, conducted last month, showed 19% listing mortgage payments as their top financial worry, up from 9% in the year-ago survey. Paying monthly bills, paying taxes and paying for children’s education tied for second, each with 11% of respondents listing that as their top concern. That was followed by paying for a car (10%), paying medical bills (9%), renovating a home (7%) and paying for food (5%).

Staff writer James Granelli contributed to this story.