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NEWPAY.TXT
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1993-09-22
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A NEW WAY TO PAY
American homeowners throughout the nation are
being introduced to a new way of paying off their
home - the biweekly mortgage prepayment program.
Biweekly mortgages differ from conventional 30 year
loans because instead of paying one monthly payment,
twelve times per year, a homeowner will make one half
of the normal monthly payment every two weeks.
Why should it matter if a payment is paid on the
first of each calendar month or every two weeks, you
might ask? Well, let's look at this concept a little
closer. There are 52 weeks in each year. There are
also 12 months in each year. If you divide 52 weeks by
12 months you arrive at roughly 4 1/3 weeks per month.
The month of January has 31 days or 4 1/3 weeks.
In February, there are only 28 days, and thus, there
are 4 weeks even. If you're like most homeowners,
you'll make your house payment on the 1st of the month
and will make 12 monthly payments per year. Usually,
the house payment is the single biggest expense!
26 biweekly payments
On the biweekly mortgage or payment plan, you will
pay one half of your regular monthly mortgage payment
every two weeks. If we look at the number of weeks per
year, there are 52. Thus, if we are paying a mortgage
every two weeks, we can easily calculate the total
number of yearly biweekly payments by dividing 52 weeks
by 2 (biweekly). So, we come up with 26 biweekly
payments each year.
13 monthly payments
Taken one step further, if there are 26 biweekly
payments in a year, and you divide again by 2 (half the
monthly payment), you will end up with 13 monthly
payments instead of the usual 12. All we have really
done is to eliminate the windfall that occurs each time
a month has several extra days. Most Americans are
paid biweekly, so this type of payment schedule is
becoming very popular.
They started in Canada
Biweekly mortgages have been popular in Canada for
two decades. There are 3 principal reasons for this.
First, it makes sense to have loan payments correspond
to paydays.
Second, it also makes the mortgage payment easier
to handle because you are paying half a payment as
opposed to the full payment.
Third, in Canada, mortgage interest is not
deductible under their tax laws so anything that will
lower the overall liability of each homeowner is of
prime concern.
U.S. banks get involved
In the early 1980s, a few banks in the
Northeastern U.S. caught onto the idea of biweekly
mortgages but ran into some roadblocks. Long term
mortgages are ingrained in this country's financial
history and making changes in the mortgage industry is
not easy.
Also, banks and mortgage lenders receive mortgage
payment checks from homeowners at the beginning of each
calendar month and so by changing to a biweekly payment
plan, the banks would have to double the number of
payments processed each month which would essentially
double their mortgage servicing costs. That by itself
was enough to kill the biweekly concept entirely.
There was also another hurdle that offered
continuing resistance to biweekly mortgages in this
country and that was how to pay for them. Back in the
early 1930s, just after the Great Depression, Congress
was trying to find ways to get the U.S. economy back on
track. The country needed housing badly but there were
major problems to deal with.
The largest problem with the housing industry
after the Great Depression was lack of funds for
construction and home loans. Banks did not have much
capital and each time they made a home loan, their
resources were further depleted.
The Fannie-Mae connection
To correct this problem, Congress decided to
create a quasi-governmental agency known as Fannie-Mae,
the Federal National Mortgage Association. Fannie-Mae
was set up by the federal government under a federal
corporate charter.
Securities were sold to the public through
brokerage firms and by buying stock in Fannie-Mae, you
were essentially buying U.S. government-backed
securities. Thus, if you had a VA or FHA mortgage, you
were basically buying part of your own mortgage.
The money generated from the sale of securities
was used to buy mortgages from banks throughout the
country, thus replenishing the money supply. This
allowed each bank to make home loans and then resell
the mortgages to Fannie-Mae to quickly recover their
money.
A huge success
Fannie-Mae was a huge success and eventually
gained competitors such as Freddie-Mac and others that
bought mortgages from the banks and resold them as
securities. This continues to this day and is part and
parcel of our financial system...which leads to another
problem for biweekly mortgages.
Since payments to investors are usually paid
monthly, there was the problem of how to pass on
investment distributions to investors. No one was
prepared to change this system, just for a clever new
type of mortgage. This became a roadblock to
popularity for the biweekly. Sure, they were popular
for homeowners but if stockholders did not have an easy
way to invest in the new mortgages, they were doomed to
a lack of capitalization.
Since biweekly mortgages had so much potential and
were gaining popularity so quickly, many banks began
offering them and retaining the mortgages in their own
investment portfolio as a gimmick to attract customers.
And it worked very well as they became every more
popular.
Tremendous potential
As Fannie-Mae became more involved with the
biweekly mortgage, they realized its tremendous
potential and saw its popularity gaining rapidly.
Since Fannie-Mae is essentially controlled by the U.S.
government, the biweekly was pushed as an equity
builder because the government likes to encourage
Americans to invest and save...and the biweekly
mortgage built home equity faster than anything!
In early 1988, the final roadblocks for biweekly
mortgages were removed by an announcement from Fannie-
Mae. They agreed to buy biweekly mortgages from banks
provided the biweekly payments were debited from the
borrower's account using the ACH (Automated Clearing
House) run by the Federal Reserve System.
Automated electronic reoccurring debits are far
less expensive than opening envelopes with coupons.
Not only that, but Fannie-Mae also solved the
investment hurdle by passing payments on to investors
monthly.
Roadblocks gone in 1988
With these roadblocks removed in February of 1988,
the biweekly mortgage had successfully become a part of
the American mortgage system and could now grow at a
pace more rapid than anything seen in recent mortgage
history. Banks and mortgage lenders throughout the
United States are changing computer software and
procedures to handle the new biweekly mortgage
popularity.
Due to the enormous acceptance or this type of
mortgage, more and more banks and lenders are beginning
to offer them as the word spreads. And why not?