The FHA has stepped in to the role subprime lenders used to fill in our housing market. Will the FHA suffer the same fate?
Irvine Home Address … 708 LARKRIDGE Irvine, CA 92618
Resale Home Price …… $286,000
A court is in session, a verdict is in
No appeal on the docket today
Just my own sin
The walls are cold and pale
The cage made of steel
Screams fill the room
Alone I drop and kneel
Silence now the sound
My breath the only motion around
Demons cluttering around
My face showing no emotion
Shackled by my sentence
Expecting no return
Here there is no penance
My skin begins to burn
My Own Prison — Creed
Underwater homeowners who do not walk away are trapped in a prison of their own choosing. Our Government, the Federal Reserve and the lending oligarchs have conspired to make that choice for people and keep them in perpetual debt servitude.
One author whose voice I admire on the housing bubble is Dean Baker, Co-Director of the Center for Economic and Policy Research, in Washington, D.C. He has written a great piece titled, FHA Troubles Are Likely to Curtail Demand, that is the focus of today’s post.
Most modification plans leave homeowners without equity and paying excessive housing costs.
The Federal Housing Authority has been taking steps over the last month to tighten its standards on the loans it guarantees, most notably by dropping several initiators who have had especially bad track records. While this is a necessary and appropriate step given its financial situation, tighter standards from the FHA will have a dampening impact on the housing market in the coming year.
Remarkably, little attention has been given to the extent to which the FHA filled the gap created by the collapse of the subprime market. At the peak of the bubble in 2006, subprime mortgages accounted for almost a quarter of all mortgages. This share fell to near zero in subsequent years. The FHA, which had been marginalized by the explosion of subprime, saw its share increase from less than 3 percent of the market in 2006 to 23 percent this year. In a context of falling house prices and double-digit unemployment, this rapid expansion virtually guaranteed that the FHA would face problems.
Now that the FHA is tightening up, its market share will presumably fall back towards its historic level in the 8-10 percent range. While some FHA borrowers will be able to find other loans, many will not. If the FHA market share drops by 10 percentage points and half of the would-be FHA borrowers cannot find mortgages elsewhere, this implies a drop in demand of 5 percent, or more than 250,000 potential buyers. This will have a substantial impact on the housing market.
Subprime crowded out FHA during the bubble. FHA fell from
its historic norm of 8%-10% of the market to being only 3%. Why go
through the brain damage of FHA (the application process is rigorous)
when the application process for subprime was nil?
Now that subprime
has imploded, FHA has filled in as the only lender willing to accept less than 20% down, so their market share has gone up to replace subprime. Can low downpayment programs prop up a falling real estate market?
Monthly Percentage Change of Owners’ Equivalent Rent, 2000-2009
The continuing decline in nominal rents is making it ever more apparent that the main beneficiaries of mortgage modification programs are likely to be banks. Under some of the proposals being discussed, the government would pay up to $50,000 to keep homeowners in their homes. In the vast majority of these situations, even after a loan has been modified, homeowners will be paying considerably more on their mortgage and other ownership costs than they would to rent the same home. In the markets that were most inflated by the bubble, this difference can be well over $1,000 a month. In other words, each month that the government keeps the family in their home as a homeowner is a further drain on their income and savings.
This is what I have been saying here at the IHB for years. To me, the most obvious sign of the bubble was paying a premium for ownership. When rents are less than the cost of ownership, appreciation is required to compensate for the additional cost. Once appreciation goes away, it is crazy to pay more to own than to rent. As many have pointed out, rents are falling, and cashflow values fall along with them. This trend will continue until the recession is over locally.
Back to the post:
Also, in the vast majority of cases, homes are sufficiently underwater such that there is no reasonable prospect that the homeowner will ever build up equity in their home. It seems that many policymakers even now have not come to the grips with the housing bubble. They fail to recognize that the surge in house prices from 1996 to 2006 was a one-time blip that is now in the process of being corrected. There is no more reason to expect that house prices will rise back to bubble-inflated levels than there is to believe that the NASDAQ will return to the peaks of the Internet bubble in 2000. As a result, most of the homeowners who receive modifications are likely to find that they either have to bring cash to a closing, arrange a short sale, or default at some future date.
If mortgage modifications cause homeowners to pay more money for housing for each month they stay in their home and still leave them with no equity when they sell their home, it is difficult to see how this policy helps homeowners. The money that the government pays out is going to banks and other lenders, allowing them to collect much more money on their loans than would likely be the case without modifications. Unlike the TARP funds, which were loans that had to be repaid with interest, the money that the government pays in modifications is simply given to banks.
Policymakers who are interested in helping homeowners facing foreclosure must focus on developing policies that either ensure that homeowners will be paying comparable amounts to the rent on a similar unit and/or that they will actually have equity in their home at the point where they sell it. A policy that both raises monthly housing costs and leaves homeowners with no reasonable prospect of accruing equity is not helping homeowners.
The only reason people are not pissed off about loan modification programs is because they still believe houses will be back at peak values in a couple of years. There are many people who are trying to stay in houses that are dramatically underwater because they believe the rate of appreciation they witnessed during the bubble will return soon. With the direct and unprecedented manipulation of mortgage interest rates by the Federal Reserve, many homedebtors believe the Government has their back when in reality, the Government is bending them over.
I am of the opinion that the FHA is going to be forced to tighten lending standards and increase downpayment requirements because if they don’t the FHA will lose money just like subprime, and the US taxpayer will finally call an end to the madness — years later, some bean counter will produce a report claiming the FHA made money while stabilizing the market; the report will be bullshit.
The road ahead is clearly through the FHA. Stabilizing the bottom of the market is a foundational step. After we reach the bottom, those that purchased will gain equity and begin the chain of move-ups that signifies a healthy real estate market. We are many years from that level of market stability.
Irvine Home Address … 708 LARKRIDGE Irvine, CA 92618
Resale Home Price … $286,000
Income Requirement ……. $59,760
Downpayment Needed … $10,010
3.5% Down FHA Financing
Home Purchase Price … $410,000
Home Purchase Date …. 7/29/2005
Net Gain (Loss) ………. $(141,160)
Percent Change ………. -30.2%
Annual Appreciation … -7.9%
Mortgage Interest Rate ………. 5.08%
Monthly Mortgage Payment … $1,495
Monthly Cash Outlays ………… $2,080
Monthly Cost of Ownership … $1,690
Baths 1 full 1 part baths
Size 868 sq ft
($329 / sq ft)
Lot Size n/a
Year Built 1999
Days on Market 6
Listing Updated 12/14/2009
MLS Number S598717
Property Type Condominium, Townhouse, Residential
Community Oak Creek
According to the listing agent, this listing is a bank owned (foreclosed) property.
Elegant townhome in the highly sought-after and gated Oak Creek community featuring a spacious master suite, one & one-half baths, sun-splashed patio & direct-access two car garage with custom storage cabinets. Large living & dining room with recessed lighting and sliding glass door access to balcony. Beautiful designer upgrades include hardwood floors, custom paint, plantation shutters and custom baseboards! Gourtmet kitchen, opens up to the living room, boasting honey-maple cabinetry, built in microwave, pantry and recessed lighting. Spacious master suite with walk-in closet and master bath with dual sinks. Just steps to resort-style pools, spas, fitness center, tennis, basketball, volleyball, award-winning schools and Oak Creek Village Center with Gelson’s Market and upscale shops & restaurants.