Tag Archives: worst case scenario

How to Break a Lease Early

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photo by Marcel Oosterwijk

Realtor.com quoted me in How to Break a Lease Early. It reads,

It’s Murphy’s Law, rental edition: You find the perfect apartment, sign the lease, move in, start to get settled in, then something happens. Maybe you get transferred to another state for work, maybe you meet the love of your life and decide to shack up together (congrats!), or perhaps your parents fall ill and you need to move closer to them.

Unfortunately life and rental laws don’t always coincide, all of which might mean you may have to entertain the idea of breaking a lease. What would happen if you do? Answers are ahead, along with some advice on how to handle this sticky scenario.

First things first: Read your lease

If you find yourself needing to break your lease, your first step should be to read it again—carefully. You could get lucky: Some leases have an “opt out” clause, meaning that you can terminate early for an agreed-upon fee. Depending on that financial amount, it might make sense for you to just pay the penalty and make a clean break, says David Reiss, academic program director for the Center for Urban Business Entrepreneurship.

Then again, some leases will say that you’re responsible for the rent due for the remainder of the term of your lease. Still, even in this worse-case scenario, you may have some wiggle room based on how benevolent your landlord is.

Talk to your landlord

If there is no opting out or the fees are too steep for you to financially absorb, it would probably behoove you to speak directly with your landlord or rental company.

“Your landlord may be willing to let you out of the lease early,” says Reiss. “You could also try to negotiate a lower amount for early termination than the lease calls for by forfeiting your security deposit.”

All in all, it never hurts to ask (and pray you catch your landlord in a good mood). It’s possible he may not mind your moving out since this means he could raise the rent sooner.You won’t know until you ask.

Find a new tenant

Another option is to offer to help your landlord find a new tenant for your apartment.

“It generally is not allowed without landlord consent, but you can discuss it with your management to see if they would consent to a sublease and under what terms,” says Reiss. You may also need to check local laws that may be applicable to subleases. If it is allowable, you might try a site like Flip, where renters can post leases they need to break in search of qualified renters who are looking for someplace to live.

Don’t just walk out

The one thing you absolutely cannot do without legal ramifications is just walk out and stop paying your rent. You won’t be trading your apartment for a cell with bars (it’s a civil, not criminal, matter), but Reiss warns you can get in a lot of financial hot water if you handle this incorrectly.

“You cannot be arrested for nonpayment of rent—unless you live in 19th-century London—but you can be sued in court; have a judgment against you; have your wages garnished; and [have] liens placed on your property to satisfy the judgment,” says Reiss.

Did we mention that this will mess up your credit scores? It will mess up your credit scores.

That said, there are a couple of cases where you could break your lease without consequences, but they are extenuating circumstances.

“If the apartment becomes unlivable—for instance, no heat in the winter—you could argue that you have been constructively evicted from the unit,” says Reiss. “Also, some states allow domestic violence survivors to break a lease in order to ensure their safety.”

Rates up in ARMs

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Marriner S. Eccles Federal Reserve Board Building

TheStreet.com quoted me in Fed Hike Means Adjustable Rate Mortgages Will Rise and Increase Monthly Payments. It opens,

The first interest rate hike by the Federal Reserve in nearly a decade means consumers can no longer take advantage of a zero interest rate environment. Particularly challenged will be homeowners who have adjustable rates and stand to face higher mortgage payments.

Record low mortgage rates are set to be thing of the past as the Fed raised rates by 0.25%, which appears to be a nominal amount initially. Of course, consumers need to consider the cumulative effect of the central bank’s decision to increase rates periodically over a span of two to three years. The consecutive rate hikes will affect homeowners with adjustable rate mortgages when they reset, which typically happens once a year.

“The initial interest rate move is very modest and consumers will see a corresponding increase in their credit card and home equity line of credit rates within one to two statement cycles,” said Greg McBride, chief financial analyst for Bankrate, the North Palm Beach, Fla. based financial content company. “The significance is in the potential impact of whatever interest rate hikes are put into effect over the next 18 to 24 months.”

The Fed will continue to raise rates several times next year since yesterday’s move is not a “one and done” move, said Robert Johnson, president of The American College of Financial Services in Bryn Mawr, Pa. The Fed will likely follow with a series of three to four rate increases in 2016 if the economy continues to improve. The central bank could raise interest rates to a total of 1.0%, which will cause mortgage rates, auto loans and credit card rates to rise in tandem.

Adjustable rate mortgages, or ARMs, are popular among many younger homeowners, because they typically have lower interest rates than the more common 30-year fixed rate mortgage. Many ARMs are called a 5/1 or 7/1, which means that they are fixed at the introductory interest rate for five or seven years and then readjust every year after that, said David Reiss, a law professor at Brooklyn Law School in N.Y. The new rate is based on an index, such as the prime rate or the London Interbank Offered Rate (LIBOR), as well as a margin on top of that index. LIBOR is used by banks when they are lending money to each other.The prime rate is the interest rate set by individual banks and is usually pegged to the current rate of the federal funds rate, which the Fed increased to 0.25%.

The prime rate is typically used more for home equity lines of credit, said Reiss. LIBOR is typically used more for mortgages like ARMs. The LIBOR “seems to have had already incorporated the Fed’s rate increase as it has gone up 0.20% since early November,” Reiss said.

“The prime rate is influenced by the Fed’s actions,” Reiss said. “We already see that with Wednesday’s announcement that banks are increasing prime to match the Fed’s increase.”

The main disadvantage of an ARM is that the rate is only fixed for a period of five or seven years unlike a 30-year fixed rate mortgage, which means that monthly payments could rise quickly and affect homeowners on a tight budget.

Over the course of the next couple of years, the cumulative effect of a series of interest rate hikes could take an adjustable mortgage rate from 3% to 5%, a home equity line of credit rate from 4% to 6% and a credit card rate from 15% to 17%, said McBride.

“This is where the effect on household budgets becomes more pronounced,” he said.

Homeowners should start researching mortgage rates and refinance out of ARMs and lock into a fixed rate, said McBride. The 0.25% rate increase equals to a payment of $0.25 for every $100 of debt.

Since many factors impact the interest rates of mortgages, consumers need to examine the actual benchmark used by their lender since some existing interest rates already priced in some of the anticipated rise in the federal funds rate, said Reiss. While ARMs expose the borrower to rising interest rates, they typically come with some protection. Interest rates often cannot rise more than a certain amount from year to year, and there is also typically a cap in the increase of interest rates over the life of the loan.

An ARM might have a two point cap for one year increases if the introductory rate of 4% increased to 6% in the sixth year of a 5/1 ARM, he said. That ARM might have a six point cap over the life of the loan, which means a 4% introductory rate can go to no higher than 10% over the life of the loan.

 Based upon the current Fed increase of 0.25%, a homeowner with a $200,000 mortgage would pay an additional $40 a month or $500 a year when the rate resets.

“While this is not chump change, it is also not immensely burdensome to many homeowners,” Reiss said. “The bottom line is that it is worth figuring out just how your ARM works so you can understand what your worst case scenario is and then plan for it.”