Latinos and the subprime crisis

Published on Tuesday, 02 September 2008 00:00

HILLSBOROUGH, N.C. – In 2003, Emilio Vasquez took out an adjustable rate mortgage to purchase a home for his family in Hillsborough, N.C. Before a mortgage broker approached them in their neighborhood, Vasquez and his wife had been saving for a house for years and didn’t think they could qualify for a loan yet.  

However, the bank granted them a 15-year adjustable rate mortgage with no down payment.

Today, Vasquez and his wife are both working two jobs to pay their mortgage payments. He has tried to refinance his loan, but due to new regulations, Vasquez no longer qualifies for most loans.

“My family had to sell our house,” Vasquez said in a translated interview. “My youngest son Miquel comes home from school every day and watches his younger brother and sister. My wife and I rarely see our kids because we have to work all the time.”

The Vasquez’s situation is not unique in the Latino community. The collapse of the sub-prime market devastated many Latinos because a higher proportion of their loans were subprime. According to the Center for Responsible Loans, in 2005 and 2006, more than 40 percent of loans made to Latinos were sub-prime compared to only 20 percent for whites.

Latinos & the Crisis

Latinos were hurt worse by the downturn in the mortgage market because they generally had higher interest rates in the beginning. Most banks offered loan packages with higher interest rates specifically targeted at Latinos, and these packages came with higher rates/

Two of the major ARM categories offered by lenders and targeted to Latinos were the “no documentation” and “no income check” loans. These packages appealed to those in the Latino community who worked cash-paying jobs and couldn’t verify their incomes as well as to those without work permits or citizenship.

To qualify for this category of ARM loans, a borrower must have held a job for the previous two years and had a certain credit score.  If he qualified, the borrower could receive 100 percent financing by simply "stating" his annual income.

The catch was that these ARM packages generally had higher interest rates than those for people who could verify their incomes. The adjustment formula was less favorable for the “no income check” loan. For example, the general formula for an ARM loan could have been the value of a Treasury bill plus 1 percent compared to plus 4 percent for a “no documentation” loan.

Additionally, borrowers with cash-paying jobs tend to overestimate their incomes when applying for loans. People who are paid in cash often don’t log their cash into an accounting system, and they don’t have receipts and W2s to supplement their estimates. Thus, they can be approved for loans that they cannot afford.

Sub-prime Loans

The adjustable rate mortgage (ARM) became popular in the late 1990s. With these loans, the interest rate is tied to a market metric. For the first few years, the rate is locked in, and then the rate is “adjusted” to the market or recalculated based on a formula based on current interest rates.

Initially, these ARM loans were attractive because they required little or no down payment, and their initial rates were lower than the rates for a fixed rate mortgage. Plus, as long as the market remained stable, even the “adjusted” rates were affordable.  

However, after the market downturn, interest rates on ARM loans soared. People could no longer afford their payments, and without large down payments, they had little equity in their homes. Furthermore, many people had loans valued more than their homes.

Let’s look at an example. In 2003, if a borrower took out a 30-year ARM to purchase a $150,000 home with an initial rate of 5 percent locked for three years and adjusting annually afterward, his initial loan payment would be approximately $800 per month.

If the index rate remained fairly stable, that loan monthly payment wouldn’t have increased much when it began adjusting. However, instead the market took a downturn and when the rate was adjusted in 2006 and 2007, it increased 2 percent both times. In 2006, monthly payments were $980 per month, and in 2007, it increased to $1,170 a month.

An Attractive Market

During the past decade, the Latino market in the United States has grown too large to be ignored. Of the latest 100 million person growth in the country, 36 million people were Hispanic.

However, in general, the Latino population is wary of financial institutions. Many Latin American countries have unstable banking industries, and Mexicans, in particular, steer clear because they remember the Mexican banking crisis of the 1990s.

Thus, to target the Latino community, banks worked to earn its trust. They began offering translated literature and coupled services for remittances to home countries with bank accounts. BB&T even created a soap opera to educate the Latino community about banking and financial institutions.

When the ARM became popular earlier this decade, members of the lending community saw the Latino community as an attractive market for the product because more of them were trying to enter the home ownership arena. Politicians both inside and outside of the Latino community were pushing for Hispanic home ownership.  

The National Housing Initiative, a bipartisan Congressional fellowship, was established in 2003 to bridge the ownership gap between Latinos and the general population. At the time, only 47 percent of Latinos owned homes compared to 67 percent of the general population. With the ARM, people who didn’t qualify for prime lending could qualify for mortgages and purchase homes.

“A single person making $20,000 a year could get into a house as long as they had good credit scores; they didn’t even have to be great scores, just a decent one,” said Eleanor Nadal, a realtor who experienced the rise and fall of home ownership associated with subprime lending.

According to Nadal, with the rise of the ARM, the real estate business thrived, and the Latino population definitely contributed to that increase. Her company employed Spanish-speaking realtors to market to the Hispanic clientele. To Nadal, the ARM seemed like “a great way to get people out of apartments and into homes.”

Likewise, mortgage brokerages and banks also built up their bilingual staff to market to the Latino community. Many of them sent agents into the Latino communities to advertise the ARM as a tool for home ownership. Yet, few if any people were advertising prime mortgages to the Latino community.

Francisco Flores and his brother, both construction workers who immigrated to North Carolina from Mexico, took out ARMs to purchase homes for their families in Carrboro. Flores attributed his interest in taking out a loan to the large presence of the mortgage industry in his community.

“Everyone was getting loans, even people who made less money than I did,” Flores said in a translated interview. “People talking about mortgages and advertisements were everywhere.”

Whose Fault Is It?

With so many players in the mortgage industry, the blame for the collapse of the subprime market and its effect on the Latino community is hard to place. Some people believe that loans are just like any other product. Before closing a loan, the borrower must sign at least 10 different disclosures outlining the provisions of the loan, including an ARM-specific disclosure. Thus, every borrower has the opportunity to educate himself about his loan.


Yet, although some banks and mortgage brokers offer Spanish versions of these forms, not all of them do. Sometimes, a borrower will be hurried through the process or sign the forms without reading, relying on the broker or banker’s description of the loan. Some people believe that the bankers and brokers are responsible for educating the borrower.

Furthermore, mortgage brokers have also been criticized for advocating loans that were too expensive for the borrower. Most mortgage brokers are paid on commission derived from a percentage of the borrower’s loan principal. Thus, they earn more from larger loans, and ARMs allow the borrower to borrow more.

A third group involved was the lenders who created and sold the ARM product. Arguably, the lenders should have understood best the risk involved in ARMs; they taught the banks how to sell the ARM and who was the target market for the loan. Some lenders offered financial rewards and other perks to banks and mortgage brokers for selling the ARM to the borrower.

All three parties, the borrowers, the brokers, and the lenders, contributed to the current situation of the Latino borrowers. Appropriately, all three groups are dealing with the consequences.

Current Situation

Obviously, the borrowers must live daily with the consequences. Many Latino borrowers like Vasquez were forced to sell their new homes and scramble to meet their payments. Others couldn’t find buyers, defaulted on their loans and lost their homes.

Flores and his brother tried to sell their homes when their loan payments began increasing last year but to no avail. The brothers were left with mortgage payments they couldn’t afford and homes valued less than their mortgages. The bank foreclosed on both homes, and the brothers moved their families into a small apartment.

Latinos have also struggled to refinance their loans. Often, people with ARMs are not able to meet the requirements for a prime loan. Those who are able to refinance generally must pay large fees for paying off their ARM early.

Furthermore, those people who applying for their first loans are facing more stringent requirements. Banks are requiring more money down and higher credit scores than before. Thus, fewer Latinos are able to purchase homes today.

“The real estate market has completely changed,” Nadal said. “I still encounter lots of Hispanics, but now everyone’s selling their homes. The crisis has dried up all of their options, and they don’t have the money to put down for another loan.”

Future Outlook

In addition to tightening regulations, many other measures have been taken to reform the bank industry and reduce the effects of the subprime crisis.

The federal government announced its plan on Dec. 6, 2007, to combat the crisis. Partnering with the banks and private sector and a non-profit organization called Hope Now, the government is offering those who ARMs have not come up for adjustment yet to either refinance their loans or extend the initial period before adjustment to five years.  

Yet, this plan does not relieve those borrowers whose loans have already come up for adjustment.  For them, the government has created a special Federal Housing Administration loan category called FHA-Secure, which allows ARM holders to avoid foreclosure by refinancing with an FHA loan. However, another requirement for FHA-Secure is a verified income, which prohibits many Latinos with cash-paying jobs from qualifying.

In addition, the Federal Reserve made an emergency cut of 0.75 percentage points to its lending rate on Jan. 22 bringing it to 3.5 percent with the hope that banks would reduce their rates too. A week later, at its scheduled meeting on Jan. 30, the Fed reduced that rate by 0.50 more points, and since then, the Fed has brought the rate down to 2.25 percent.

Since the Fed’s rate factors into the adjustment formula for most ARMs, these cuts should help relieve the financial burden on those with adjustments in 2008. The rate has fallen 3 percentage points since May 2007, which translates into major savings for ARM borrowers upon adjustment.

Furthermore, according to the Department of Labor, the unemployment rate for Hispanics has increased from 5.9 percent in December 2007 to 6.9 percent in late April, a rate more than 1 percentage point higher than the overall rate for the population. Thus, some Latinos have both lost their jobs and faced major increases in their loan payments.

What Does It Mean for Latinos?
In the end, the Fed rate cuts are alleviating some of the strain on Latinos with ARMs by reducing their payments upon adjustment, but the community is still struggling. During the past decade, many Latinos bought their way into the “American Dream” of home ownership with subprime mortgages, and today, that dream is slipping away.

“We work so hard and have nothing,” Vasquez said. “Last year, we were so happy. It seemed like we had everything we could want. Now, we are back where we were five years ago but with more debt. I don’t understand how you could work that hard and still lose that much.”

Lauren Finnis graduated from the University of North Carolina at Chapel Hill in May 2008.

The ARM calculator

National Housing Initiative article

Hope Now Alliance, the government-endorsed non-profit serving ARM borrowers

Housing & Urban Development website with information on FHA-Secure