Posted on 06/12/2011 5:12:06 PM PDT by NaturalBornConservative
By: Larry Walker, Jr.
The first step in any recovery is acknowledging the problem. The second step is having faith that a power greater than oneself can restore sanity. Joe purchased his home four years ago for $300,000. He currently has an outstanding mortgage balance of $270,000. The appraised value of his home has fallen to $150,000. If he sells it for $150,000 today, he will eat a loss of $150,000 which is not deductible for tax purposes. Joe can afford his mortgage payments and has not missed any. Since he doesn’t qualify for a loan modification, what options does he have?
For one, he can continue to pay off the $270,000 debt, plus interest, on a home which has lost 50% of its value, thus incurring more than a $150,000 loss spread over time. Or if he finds this distasteful, he can simply walk away from the home and let the bank and the wizards of DC deal with it. Other than that he really doesn’t have many options. I say he doesn’t have many options, because I know some folks who have already walked away from their homes, renting them out to others while they rent elsewhere, with the idea of dumping them for a loss if things don’t improve in a couple of years.
Does it make sense for Joe to sit there, stuck in a home that he can’t sell or refinance; making a payment every month on what he knows is a bad investment? Would you invest $300,000 in something that you thought would be worth half in the future? Although housing prices may increase over time, they didn’t get to where they were overnight, and life is finite. Joe is 50 years old and doesn’t have another 30 years to waste. So what can the government or private sector do for Joe?
Solution: The Mortgage in-kind Exchange
One of the things eating away at Joe everyday is that he sees House B, a bank owned foreclosure which had an original cost of $600,000, still has an appraised value of $300,000, but has a selling price of just $150,000. Joe would love to purchase House B but he is not able to get out of his current mortgage without incurring a $150,000 loss. Joe would have to come up with a $120,000 payment to get out of his present mortgage, plus make a down payment on the bank owned home, which would make him even worse off.
A Mortgage in-kind Exchange is a unique idea that would allow Joe to sell his home for a loss and rollover the remaining $120,000 loan balance into a more valuable home. It would allow Joe to purchase House B for $150,000 with a $270,000 mortgage. House B would have an appraised value of $300,000 and a mortgage debt of $270,000, thus making Joe whole.
How it works – Joe is allowed to hold an option to purchase House B for a small earnest money deposit of $1,000 which will take the home off the market for up to a year giving him time to sell his old home. If the old home doesn’t sell within a year, Joe may either extend the option by making another deposit, or forfeit.
Benefits and costs - Joe would be better off by being allowed to purchase a more valuable home for the same amount owed on his underwater home. The banks would be better off because they will have reduced their REO inventories without incurring as big of a loss. The economy will improve by allowing faithful homeowners a chance to improve their personal debt-to-equity ratios. Housing prices will improve by removing homes selling for less than fair value from the market. The cost to taxpayers would be zero.
The banks can get involved by matching up faithful homeowners with qualified properties. The government can get involved by getting out of the way, and encouraging the free market to push solutions rewarding those who deserve it the most.
Related: Upside Down In America
“...whether it “makes sense” after the fact or not is quite irrelevant. Joe ought to meet his obligations. Since when was that optional? Just couldnt get past this part of the article; it’s bound to be shot through with more foolish premises after a beginning like this.”
I merely posed “the question” facing many Americans today. I didn’t suggest that they should walk away from their obligations. The federal government would be making principal payments on its debt if it were meeting its obligations, and I am meeting mine despite being upside down, so don’t talk to me about FReeping obligations.
That may be true but rents are going up now too.
I am sure not every city and region are identical, so in certain places it still probably is good to rent and wait.
However, the more important thing I was trying to get across is save up the money for property first, THEN buy it outright so in the end it will save you so much moeny you don’t have to piss away in mortgage interest.
“...whether it “makes sense” after the fact or not is quite irrelevant. Joe ought to meet his obligations. Since when was that optional? Just couldnt get past this part of the article; it’s bound to be shot through with more foolish premises after a beginning like this.”
I merely posed “the question” facing many Americans today. I didn’t suggest that they should walk away from their obligations. The federal government would be making principal payments on its debt if it were meeting its obligations, and I am meeting mine despite being upside down, so don’t talk to me about FReeping obligations.
This is a very good idea, but it presents some challenges:
1. A lot of the banks that are servicing mortgages don’t own the underlying notes. They make more in fees if it forecloses. So sadly, their financial incentive is to let it burn.
2. A lot of financial institutions either don’t want to take a loss on their books or can’t.
3. You do get into the issue of moral hazard. The lenders do and should want folks to make good on their loan and the truth is, most folks try. They don’t want to make it easy to get out because they’re better off having the debtor stay put and continue to make the payments.
Where I see this being useful is in states where a mortgage is nonrecourse debt and where you have a financial institution that both has a large enough to have a significant inventory of REOs and is strong enough to take the hits.
Thanks. Let me know before the uptick
Relax.
You can be pretty sure that the $10,000 check from Chase bounced.
I really feel for your friend.He is doing the right thing, putting his son first.
“This is a true event which happened last month.”
And even stranger...it might have been a good deal for the bank in the long run.
The last thing the banks need are more trashed REOs. So they cut a deal. You stay in the home, take good care of it, do a short sale and we’ll let you walk and give you a check besides. Also saves the cost of a foreclosure.
That became “optional” as you call it when he discovered he was being scammed.
These houses are not “dropping in value”.
Rather, the price they can bring in a sale is dropping to the actual value.
Before the laws were changed during the Carter presidency, the appraisal process required that home values be indexed against the local median income, housing supply, and population density. This insured that federally insured loans were not made for sums vastly greater than the home might bring if sold relatively quickly. The Carter administration got all that pesky math waived in favor of the current system of just seeing what similar homes have recently sold for. I don’t think those who proposed this were unaware of where it would lead.
I have been explaining all this for nearly ten years now. We have a ten to fifteen year oversupply of homes.
I knew this, and absolutely the banking and apprasal industries - at the top and middle management knew. Home buyers, not so much.
You can stop crying crocodile tears about how these people are being unfair to the banks.
Search the keyword “housing bubble” and go back as many years as you like. This didn’t happen out of the blue and the formation of the failed MERS shell game shows the banks were grasping at straws for a way out before the wave broke.
“...it presents some challenges”
Good points. It’s going to take some challenges to resolve this, primary of which is acknowledging that there is still a problem.
If he's in a non-recourse state, he IS meeting his obligations. He promised to either pay back the mortgage, OR turn over the house in foreclosure, and paid a modest premium compared to what he would have paid in a recourse state. The bank has the choice to foreclose any time they like, and when they do, the terms of the contract will have been fulfilled.
Thanks. Let me know before the uptick
Thanks for the info on what the banks do with the earnest money. When I am ready to act, I’ll take that into consideration and request a short escrow period.
btt
The current issue is trivial in comparison to what’s in store tomorrow.
That is a really disturbing story you shared, thank you for writing it out.
I was dealing with a condo that had 120 units of which 25 to 30 were not paying dues on any given month. Was a dire situation which left the HOA and developer in a lurch for nearly 2 years. Only now have the backlog of pre-foreclosures and foreclosures been transacted to new owners and as of last month only 9 units were not paying HOA dues.
As per the original article, Professor Schiller sees the possibility for another 25% drop in home prices, which means starting a new Federal program to roll over under water mortgages at this point would just dig a deeper hole for those who took up the new roll over mortgages. At some point several years from now, where the market has found a real bottom after interest rates return to non-ZIRP non-QE levels would a roll over program even begin to make sense for the homeowners and the banks.
“At some point several years from now, where the market has found a real bottom after interest rates return to non-ZIRP non-QE levels would a roll over program even begin to make sense for the homeowners and the banks.”
It doesn’t need to be just a one time thing. Why not allow the ability to rollover every two years? It also may help to stave off an additional drop in prices which is part of the goal.
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