Why Banks Don’t Like Extending Credit to Businesses

It’s the middle of March, 2009 and I’m once again, writing a new past due notice to one of my clients, a business owner based on the west coast. Mirabella, the owner of a novelty item company, is now almost a year past due on the money she owes me for work I did for her last summer.

I’ve known Mirabella for some time and we have many mutual associates to whom she also owes money. It’s almost a running joke among our circle of friends. I knew it was only a matter of time before she owed me money, too.

“But, you’re still taking a full paycheck,” I always argued when I heard her explanations on why she couldn’t pay back a loan to one of our friends.

Her excuse: “That’s personal money. It’s not the same account. It’s illegal for me to pay company debts from my own account.”

“Whatever!” I shrugged.

Last summer, I, like many before me, finally became one of Mirabella’s statistics. She now owed me money, not because I’d loaned her cash or bought groceries for her when she forgot her wallet, but because my company had done work for her company.

“Of course, you can wait to pay me,” I said. “But if you even pay a little each month, I’ll waive the late fees,” I explained. “How about $100 a month?” I suggested.

Predictably, I didn’t receive any payments, just an occasional call from Mirabella so she could explain that she couldn’t pay me because of this or that.

“I just want to kill myself. I double ordered a product from China for a client and now I have to eat it,” said Mirabella in August.

In September, there was a light at the end of the tunnel. “This retired man named Frederick is loaning me money so I can make payroll. I think he wants to date me,” said Mirabella.

In October, things were dire again. “McDonald’s is rejecting all my credit cards. I can’t even buy a sausage biscuit,” she whispered from the drive-thru as I listened to the cashier on the speaker tell her that her American Express card was denied.

In November, Mirabella had to dip into her personal money. “I had to write a huge check to my brother to buy back his investment,” she sobbed. “My family is making me do it. It’s his fault. He sucks at his job.” I found out later that her brother’s home was foreclosed upon, the one he was given by his mother. This is especially ironic since he works as a mortgage broker.

In December, things were looking up again. “My Cousin Chip came to visit me and gave me some bonds,” she said happily.

“Can you pay me, then?” I asked.

“I’m not cashing them. I’m keeping them for my retirement,” she said.

“Ah, Mirabella!” I sighed.

Finally, in early January of 2009, it seemed justice was going to be served. Mirabella called. She was angry, “The bank froze all my accounts. My personal account, too! I should sue them. They can’t do this. I’m a corporation!”

Mirabella became a small business owner so she wouldn’t have to answer to anyone but herself, pull a big paycheck to buy expensive designer clothes, and jet set across the globe. Her novelty company was founded on money given to her by her family. Although the company has brought in some money from actual sales, it primarily survives on loans from friends, mostly older men who have the extra cash, think Mirabella is sexy and cute, and enjoy her company. Mirabella’s real skill isn’t making money from sales, it’s making money from loans through her ability to win sympathy.

Mirabella had managed to make ends meet for several years the way many small business owners do. In addition to loans, she had secured several lines of bank credit and multiple company credit cards. Each month, when funds were short, she didn’t pay what she felt she didn’t have to pay; then moved money around by paying one bill with another line of credit, and so on. Her accountant, also a former boyfriend, did his best to help her company appear solvent and successful. He also continued to pay out her full paycheck, despite revenue shortfalls.

Although it’s fun to hang out with Mirabella and enjoy recreating in the illusory world she’s built around herself, I knew it would have to end someday. Seeing her fail was bittersweet. She can’t manage money, doesn’t pay anyone back, and deserves to be shut down. However, she is a friend, so I continue to feel sorry for her.

Then, one day in mid February, Mirabella called to say all was right with the world again. “Cousin Chip and I are starting a new corporation. He’s paying the start up costs and opening up a new bank account in his name.”

“What are you going to do about your old company?” I wondered.

She didn’t answer.

But, she did add: “I can’t pay you with the new company money. It’s a different corporation.”

Hmpf! This is what I get for doing business with friends, I thought to myself.

It’s now March of 2009, nearly a year since I did work for Mirabella. She called last week to say she had been skiing with an old boyfriend who is recently divorced and was now staying with him at his vacation home in Florida. Next week, she is heading to Europe with a different man who she thinks might pop the question. She needed advice on the closest spa so she could get a pedicure.

“Stop by and we can go to the spa near my house. Then, you can treat for both of us. Consider it a down payment on the money you owe me,” I suggested.

Mirabella was a no-show. Big surprise.

I have little hopes of ever collecting because Mirabella herself doesn’t owe me money, her “now old” corporation does. In her mind, it’s my loss.

In the United States of America, owners of corporations are protected from owing money their company owes. That’s one of the principal reasons you incorporate – to protect personal assets. By incorporating your business, big or small, you won’t lose your house, your car, not even your credit rating when the bill collectors come a-callin’. You become divorced from all fiscal responsibility should the company go south, despite how much your own irresponsibility led to its downfall.

In Mirabella’s case, when she ran out of money, she simply started a new corporation. If she’s unable to resurrect the old company, she can simply shut it down, cutting off any creditors. Mirabella’s big paycheck is safe. The new corporation doesn’t owe anyone any money, yet.

President Obama announced today in a press conference that he wants banks to open up the floodgates and extend credit in order to get our economy moving again. He plans to increase the amount the Small Business Administration will guarantee so that there is less risk for banks who award lines of credit to small businesses. However, there is still no increased accountability to ensure that companies will pay the money back. There is no examination of start up businesses applying for lines of credit to ensure that these are not run by people who ran another company into the ground, then hung a new shingle outside their doors in order to appear to be in good standing. (See the video of the President's speech at: The Huffington Post website.)

Lines of credit should come with plenty of strings attached. Corporations should be required to put all owner’s names on the bank loan to secure the debt. Each owner should have to pass their own credit check. If you were part owner of a corporation who failed, and the failure was not due to unforeseen circumstances, such as your company was destroyed in an earthquake, you should not be allowed to get a new loan until the old corporation's debts are fully paid.

If you receive a loan and your company fails while you continued to pay yourself, you should have to sell your Mercedes, yacht, or vacation home to pay back the bank. If you live in a multi-million dollar home while everyone else lives in an average 3 BR, 2 Bath $200,000 home, you should have to sell your expensive home and downsize in order to pay back old loans. No more of this, “protecting personal assets” bull hockey.

It’s no wonder banks are so nervous about extending lines of credit to businesses. They should be.

Housing Stimulus Package Treats Symptoms, Not Cure

Although not completely unreasonable, Obama’s housing stimulus package won’t really solve the foreclosure crisis because it addresses the symptoms, not the root of the problem, which is continued predatory lending.

Last summer, my husband and I easily qualified for a loan in order to purchase a home in Florida. We were approved in part because houses are cheap here, and the monthly mortgage payments with insurance and taxes were estimated to be about one quarter of our combined income.

However, due to the large number of foreclosures in Florida, we also had to put up our other house as collateral. We had just moved from Washington State, and were keeping our old home in case things didn't work out and we wanted to move back.

This was my third home loan with Countrywide Home Loans. But, this time, I left the closing table feeling I’d been ripped off. My mortgage payment would be about $200 more per month than what I was quoted when I put the offer in to buy this particular house. The closing costs were also about $7,000 higher than originally quoted several months before when I was first looking into buying a home, in part because the required percentage of down payment was higher. The interest rate had also gone up over the three months I’d been looking.

“Walk away,” some might say. “Find a new lender.”

Too late. I’d lose the chance to buy the perfect house that had taken me months to find as well all my earnest money which I’d put down as a deposit on the house a month earlier.

One of the clever ways Countrywide was able to justify their miscalculation of my monthly payment was to blame it on property tax. It is true that it is difficult to calculate tax since it’s all up to the property appraiser to decide how much your home is worth after you buy your home. New tax levies are also hard to pin down. The mortgage company was off their property tax estimate by about $100 per month, $1200 per year.

The first time you buy a house in Florida, whether you’re a long term resident or have just moved from out of state, can be a real shocker. Property tax on “non-homesteaded” homes is extraordinarily high. A $250,000 home will cost a “virgin” home buyer about $6,000 in taxes per year depending on the county and city where you buy your home. That adds another $500 per month onto your mortgage payment. This can be particularly upsetting when you learn that other homeowners in your neighborhood are only paying $500 a year, not $500 a month, for basically the same house, but that’s another story.

Second, I was told at the 12th hour, literally while signing on the dotted line, that I would have to pay PMI, private mortgage insurance. Unlike home insurance, PMI does me absolutely no good. It basically gives the lender back their money I borrowed if I default on my loan. At an extra $130 per month, this greatly increased my monthly payments. I haven’t had to pay PMI since I bought my first house, many years ago, at a young age and with only a small down payment. This particular extra charge annoyed me because I chose to go with Countrywide over Wachovia because I was given the impression that I would not have to pay PMI if I got my loan through Countrywide. The representative explained that it was in the fine print.

Once again, I felt I’d been ripped off. However, what was done was done. I would move on and move into my new home, choosing to cut my losses rather than start over the house hunting process from scratch.

Last fall, a few months after buying my new Florida home, I decided to consolidate my two home loans into one to lower my payment and remove the PMI. Once again, I talked to several lenders. Once again, I picked Countrywide over another because my quoted monthly payments would be lower. However, after receiving the paperwork, I discovered that I had been misquoted my mortgage payment by about $200 per month. Once again, Countrywide blamed it on property tax. However, this time, there was no excuse. The respresentative had all the numbers in front of him: principal, interest, property tax rolls, and insurance bills. A fifth grader could have done better math.

In addition, while reviewing the cryptic paperwork, I discovered that I had been charged points to lower my interest rate from an ungodly 9% down to 7.5%. (The rates on the two loans I was consolidating were between 5% and 6%.) As a former reporter, I’m pretty good at taking accurate notes, and the Countrywide representative used the term “you qualify for a discount,” not “you are buying points.” I had no interest in “buying” down my interest rate. I feel I should qualify for a very low interest rate based on excellent credit and equity alone.

In addition, $10,000 in fees were added to the home loan. Before you assume that I must be borrowing some enormous amount of money or have low equity to be charged 9% interest and $10,000 in fees, I must explain. The amount I would be borrowing was actually LESS than the amount of the original loan on the Washington State house. Plus, I now had MORE equity because I had wisely paid down the WA State loan early.

Only because I had the misquoted payments in writing, was I able to back out of the loan with no penalty. The representative, who’s demeanor had seemed as rosy and pleasant as a sunny day in Florida, turned nasty and defensive when I called him on the carpet. I expected an apology and discounted fees. Instead, he was insulting. I guess he was upset that he would lose his hefty commission.

I told my story to a lawyer friend who’s currently representing a city government in Florida in litigation with a mortgage company. He explained that after Bush deregulated everything, there currently isn’t an agency who oversees lenders to make sure they don’t underestimate monthly mortgage payments. "Unfortunately, in your case," he said, "there’s no one to complain to who will be able to do anything."

Obama’s stimulus package includes financial help for individuals who may lose their homes because they can’t afford to pay their monthly mortgage payments. The plan allows them to refinance their homes at a lower value than what their homes were originally valued at, which results in lower payments. So, if you bought a $300,000 home and still owe $280,000 on it, but it’s now only worth $200,000, you can refinance your loan at $200,000, which results in lower payments. Taxpayers pay the difference, the $80,000 back to the bank. (Update on 2/26/09: Details of how this will actually work are unclear. One local Orlando banker predicts that banks would only receive $6,000 per loan, no matter how much is owed. This has not been confirmed by any reliable news source.)

Other than the obvious, that this plan is unfair to people who are scraping by, taking second jobs, and doing whatever they have to do to make payments on time, it also makes no sense to me. The root of the problem is that the buyer was approved for this loan in the first place. I have to assume that the buyer isn't in trouble because they were out buying a new car, clothes, vacations, and electronics or sending their kids to private schools instead of making loan payments. I also have to assume that the buyer didn't take out a home equity loan which artificially raised the value of their home. And, I have to assume that the banks approved a loan with payments higher than the buyer could realistically afford. Why were banks allowed to do this in the first place?

Who’s watching the lenders to make sure they don’t continue to take advantage of customers by roping them in with the promise of lower costs by misquoting their payments and fees, then surprising them when it comes time to close? Why aren’t fees standardized so that the costs will be about the same between lenders? Who’s watching the fine print? Who even understands the fine print?

To fix the mortgage industry, we must fix mortgage lending practices. Mortgage companies shouldn’t be able to boost interest rates in order to make a profit. If one person can get a 5% interest rate for a primary home loan, shouldn’t everyone?

Fees should be standardized so that a borrower can not only understand what they are paying, but also so that they are the same from lender to lender.

A higher fee for a person with poor credit, or a higher fee for making a “no-to-low” down payment, should also be standardized across the industry.

Rates and fees should also be locked in for one year at no extra charge, about the time it takes to find that perfect house to buy.

“This will ruin the free market economy. This is socialism!” banks will cry.

No, this is no different than any other major purchase in life. Car dealers have to list fees and prices on the sticker and can woo customers with free oil changes for life. It’s easy to back out of what looks like a bad deal: You don’t have to make a deposit before signing for the car; you aren't locked into a loan for 30 years; and you can easily go to a different dealer to find the same exact silver Chevrolet Cavalier since cars are mass produced. Even utility companies and insurance companies must go before the Florida Legislature to justify price hikes. Credit card lending terms are written on every statement. Why can't mortgage costs be standardized?

Rather than winning over home buying customers by promising lower interest rates, fees, or payments, home mortgage lenders can promise better customer service. Your bank where you have your checking account can offer you convenience in transferring payments between accounts. Independent lenders, such as Countrywide, can offer flexible payment schedules or lower late fees for late payments to woo customers, or maybe throw in a free gift card to Haynes furniture.

There should be no surprises.

Banks are not only to blame. Florida counties and cities need to commit to listing anticipated property tax on homes for sale so you know exactly how much you will have to pay, even before you put an offer in to buy a home.

PMI? What’s the point? What good did PMI do amidst all the foreclosures. That’s one extra fee that should be eliminated entirely.

In addition, the current structure of loans sets borrowers up for failure by amortizing payments. What does that mean? The first few payments you make don't pay off your loan. Instead, they are attributed to interest. In fact, over half of your mortgage payments pay interest for the first 18-1/2 years of a 30 year loan. Crazy? Huh? No wonder so many people owe more than their homes are worth. The only way to pay less interest is to make extra payments earlier than scheduled. Wouldn't it be great if instead of paying $900 towards interest and $100 towards the loan, you paid $300 towards interest and $700 towards the loan each month from day one? After one year, you'd already have paid off $8400!

Obama wants to give an $8,000 tax credit to first time home buyers to help with the cost of buying a home to offset these costs. Too bad it's too late for the rest of us. We were all first time home buyers at one time.

I would prefer that the housing stimulus money be spent on a government regulatory agency that will standardize home loan costs for everyone. That’s the only fair way to spend tax payer money. We are one country. We are one people. We all pay taxes in one way or another. Let’s all reap the benefits of “club membership” of this United States of America.