Today’s post began as an email exhange between me an OC Progressive. He has analyzed the impact of the loss of mortgage equity withdrawal on the local economy. What he found is remarkable.

Asking Price: $635,000

Address: 21 S Caraway, Irvine, CA 92604

Steal My Sunshine — Len

i know it’s up for me
if you steal my sunshine
making sure i’m not in too deep

Rather than paraphrase, below is the full text of OC Progressive’s post:

Housing Bubble Busts Every Local Budget – Get Ready for Extreme Makeovers

In trying to follow local politics here in Orange County,
I’ve been looking very closely at local government budgets, and there’
s one trend that seems to be emerging rapidly. We’re seeing a
precipitous decline in local sales tax revenue. And this is not going
to be a temporary problem, but rather one with serious long term
impacts.

I was absolutely floored by OCTA’s fiscal review that showed a
difference over three years, in the projection of revenue from sales
tax, that lowered the 2009-2010 projection of sales tax countywide by
19% over their previous projections. (This was a difference between
projections, not between actuals, but both current and previous
projections were based on solid actual numbers and best case
projections).

The decline in sales tax has two components, and one will not recover. What nobody seems to be picking up is the relationship between the mortgage bubble and the collapse in California sales tax.

Calculated Risk has consistently posted graphs and reports that show Mortgage Equity Withdrawal (people taking money out of their
houses) as a percentage of disposable income. If you read the Irvine Housing Blog,
you’ll see example after example of folks who used their house as an
additional income from 2000 to 2007, turning debt into tax-free income,
frequently in the range of 50,000 a year. The phenomenon peaked in Q4
2006 when MEW was nine (9)% of disposable income nationwide, and 6% of
consumer spending. A year later, it had only dropped by around 20%.
Now it’s essentially cut off because no one will fund the loans
anymore, and no one will even fund the credit card debt that was
routinely paid off with visits to the house ATM machine.

Because Orange County in particular, and California, in
general, have housing prices so much higher than the national average,
and because we were at ground zero for the origination of the new
mortgage products, my guess is that mortgage equity extraction in the
OC may have been as much as twice the national average as a percent of
disposable income, meaning that up to 18% of the county’s disposable
income, and 12% of the taxable sales, were coming from MEW.

So
sales tax revenue money fell off a cliff in fiscal 08-09, although the
lag in reporting and balancing reports is making that truly apparent
only now. Last September the drop-off was in the six per cent range. Costa Mesa is now reporting a 12% year over year decline in sales tax for 08-09.
John Chiang just reported that “sales taxes continue to be hammered by
diminished retail spending across the state”, with an 11.8% year to
year drop-off in March. (And March sales might have borrowed some high
ticket sales in advance of the April 1st sales tax increase!) If you
dig down into the details of this Rockefeller Institute report,
you’ll see that a national decrease in retail sales tax reported by the
Wall Street Journal is actually a phenomenon driven by the real estate
bubble states of CA, FL, and AR. Double digit sales tax losses in those
states pull the national “average” loss of 6.2% down to 3.2%.

It’s hard to figure out how much of the decrease is a result of a
general economic slowdown, and the huge job losses, and how much is
based on the end of MEW, but my observation is that nobody is even
factoring in the disappeared MEW as a part of the problem, and local
and state electeds seem to think that normal cyclical patterns will
reassert themselves so that retail sales will revert to the mean,
Therefore, current assumptions and 2009-2010 budgets at every level
may be underestimating both the current and future drop-off in sales
tax revenue.

Instead, it’s more likely that a significant chunk of our
retail sales (let’s say 10% when compared to FY 2006-07) are gone
forever because of the collapse of MEW, and the jobs in local retail,
restaurants and services are following the jobs in finance, real
estate, and all the affiliated jobs that supported the refinance
industry. There are always lags, especially with small business owners
who are reluctant to throw in the towel, but we already have far more
retail than we need, and much of it is unprofitable.

Because of the budget preparation cycle, and the lagging
revenue information, local budgets for 08-09 were based on retail
sales for Q1-Q4 2007, so cities are drawing down reserve general fund
balances at a rapid rate, leaving very little flexibility for ensuing
years. Mid-year revisions didn’t cut expenses fast enough, so as
budgets are finalized and the retail sales numbers for FY 08-09 receive
real visibility, you’re going to see a series of bad choices.

This will hit transit first and hardest, where local transit
funds come from a 1/4 cent tax, and we’re looking at devastating
impacts in bus and transit systems in Orange County and across the
state.

Effects of sales tax collapse varies dramatically from city to
city and agency to agency based on the share of property tax that local
governments get, which is a bizarre calculation made when prop 13 went
into effect, but the overall effects are dire. Property taxes, whose
gross receipts had been going up around 6% a year, based on the 2%
increase for existing properties, and huge gains for resales. My guess,
more pessimistic than most, is that property tax revenue will now be
decreasing in the 2% per year range as property values drop by 50% and
reappraisals slowly move through the assessors’ systems, with some
additional problems with non-payment. Hotel taxes, which are a big
income source for many cities, are plummeting with the general economy.
Even stable sources like business license fees, franchise frees, and
utility taxes are dropping, so there are no positives to balance out
the drop in sales tax.

Given the way that local politics work, and the incredible
power of public safety unions, my gut feel is that very few California
cities will react quickly enough taking the steps they need to balance
their budgets, and that the Vallejo bankruptcy is a precursor to a wave
of municipal failures. It’s going to hit hardest, first in the places
where we’re already at depression level unemployment numbers, with no
new jobs in sight. Look at a city like Merced that has a 10 million plus gap in a 40 million dollar budget for next
year, after budgeting to dip 4 million into reserves to balance the
08-09 budget, and you’ll get a feel for how deep the cuts are going to
be. Merced anticipated a 7% drop in sales tax, and saw close to 19% in
the the fourth quarter of annual 2008. And there are fine points that
people don’t get. Merced will not only burn through the reserves that
they thought could carry them for five years, but they’ll also lose the
$800,000 or so of revenue that they used to make in interest on the
reserves.

Merced’s an extreme case, but it’s just a little earlier than
a city like Huntington Beach, which is now looking at a shortfall of at
least 6 million in revenue for the 2008-2009 fiscal year.

Every local government is going to be facing double-digit cut
backs in budgets for 2009-2010, and even worse cutbacks in 2010-11 if
their projections are too optimistic, and they get hit with substantial increases in PERS contributions that year.

Obama’s stimulus funds are patching a huge hole in the state
budget, but aren’t going to fill the problems with local funding
shortfalls.

All of the cities are applying for a part of the ONE BILLION
DOLLARS (cue Dr. Evil) that Obama has pledged to maintain local law
enforcement, but that’s divided over three years, and may pay for
5,000 cops nationwide, maybe 500 in California or an average of one
for every one of California’s 458 cities and 58 counties. Innumeracy
reigns at the council dais sometimes when elected officials are
grasping at straws.

We’re going to see an extreme makeover of local government.
Some revenues will recover very slowly. Other revenue, like the phony
money that was coming from the housing ATM, are just not coming back.

Local governments have grown used to steadily increasing
revenues, and have planned accordingly. Now they have to hit the reset
button.

Extreme makeover time!

{book2}

There you have a detailed and data-based analysis from someone who pays careful attention to these issues.

So what do you think our local governments are going to do? I suspect we will see a large number of municipal bankruptcies. A recent court decision concerning the Vallejo, California, bankruptcy allows the City to void its union contracts. When local tax revenues went up dramatically during the bubble, much of this money went to union wage and pension agreements. Now that this revenue is gone, probably permanently, cities will have difficulties meeting these obligations. I expect we will see more bankruptcies and union contract cram downs.

At some point, the reality of the permanent loss of MEW is going to set in on both homebuyers and government officials. When homebuyers realize it, there will be serious withdrawal pains from kool aid intoxication. When government officials realize it, there will be ugly political battles that will likely end up in court battles.

The fallout from the loss of mortgage equity withdrawal has yet to be fully felt and realized. It will be another shock to Californians.

Asking Price: $635,000

Income Requirement: $158,750

Downpayment Needed: $127,000

Monthly Equity Burn: $5,291

Purchase Price: $460,000

Purchase Date: 2/26/2003

Address: 21 S Caraway, Irvine, CA 92604

Random capital Letters?

Two exclamation points.

• This property was purchased on 2/26/2003 for $460,000. There was an inter-family transfer on 6/14/2007, but this did not impact the financing on the property. When the property was purchased, the owner used a $413,540 first mortgage and a $46,460 downpayment.
• On 2/25/2004 she opened a HELOC for $58,800.
• On 4/12/2004 she refinanced the first mortgage for $426,300.
• On 3/24/2005 she opened a HELOC for $230,000.
• On 8/16/2005 she refinanced the first mortgage for $650,000 with an Option ARM with a 1% teaser rate and got a HELOC for $55,500.
• Total property debt is $705,000.
• Total mortgage equity withdrawal is $291,460 including her downpayment.

If this property sells for its asking price, and if a 6% commission is paid, the total loss to the lender will be $108,100.

From now on, when you see these $300,000 mortgage equity withdrawal numbers on typical Irvine properties, you will have a good idea of the impact that had on our economy, and you will also see the impact the loss of this money will have moving forward.

{book7}

i was lying on the grass on sunday morning of last week
indulging in my self defeats
my mind was thugged, all laced and bugged, all twisted round and beat
uncomfortable three feet deep
now the fuzzy stare from not being there on a confusing morning week
impaired my tribal lunar-speak
and of course you can’t become if you only say what you would have done
so i missed a million miles of fun

i know it’s up for me
if you steal my sunshine
making sure i’m not in too deep
if you steal my sunshine
keeping versed and on my feet
if you steal my sunshine

Steal My Sunshine — Len