Meredith Whitney and the Hierarchy of Payments

It used to be that if you were having difficulty making your mortgage payment, you’d end up, one way or another, putting it on your credit card — if only by being unable to pay off much of your credit card bill that month.

Today, says Meredith Whitney in a Fortune profile, it’s the other way around, and if you’re having trouble making your credit-card payment this month, you’ll end up using your mortgage money to keep current on the plastic.

Any borrower who’s upside down in his mortgage – i.e., the size of his mortgage is bigger than the value of his home – is likely to make car and credit card payments before paying his home loan. "The hierarchy of payments has totally shifted," Whitney now says.

I’m having difficulty believing this, although it might well be true. My problem is this: if you’re not upside down on your mortgage, then you quite obviously and sensibly will put your mortgage payments first. But are do people really have such a good idea of exactly how much equity they have in their house that they’re able to turn that hierarchy of payments on its head the minute that their equity falls below zero?

I also don’t quite understand the psychology. I can understand someone giving up, maxing out their credit cards, declaring bankruptcy and letting all their creditors simply fight it out between themselves; I can also understand someone with credit difficulties doing everything in their power to hold on to their home. But what loyalty do people have to their credit card company? What does it benefit a man to stay current on his Amex if in doing so he loses his home?

Financially, however, there’s something to be said for Whitney’s strategy. You should pay off high-interest debt before low-interest debt, and right now homeowners with relatively small arrears are in a very strong negotiating position with their banks, who have no desire whatsoever to foreclose. Still, it’s not something I’d recommend.

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