by guest contributor, Peter Fugiel, Ph.D.
Communities all over the U.S. are gradually learning the hard way: the only effective solution to the mortgage mess has to be community-based. And in the case of bringing back local real estate values, it turns out that community-oriented solutions and market-based real estate values end up being the same thing. While “community-based” is a public-sector concept, “market-based” is its private-sector first cousin. Together, community-oriented and market-based mortgage resolution programs are the local economic reality we have all been seeking. Local economic reality is the opposite of “too-big-to-fail” federal housing schemes.
Last month, the City of Chicago passed an ordinance which, more or less, made mortgage servicers and mortgage note holders both liable for the maintenance of distressed home units. Of course the mortgage industry objected to the statute, so the City Council said, “sue us.”
The two sides are working out the impasse. The City does not want to lose any more population, especially those folks who just five years ago couldn’t wait to move into their new Chicago houses. On the other hand, the lenders never bargained to be in the home rental business. With the assistance of a major foundation, several local neighborhood groups, a new mayor, and an innovative state-federal mortgage resolution program, the City may come up with something that works.
An occupied, maintained property is the key to maximum long-term value protection
Being at loggerheads can be deceiving. Because, at heart, both the lenders and the local taxing bodies in Chicago and elsewhere want the very same thing. They want to preserve as much real estate value as possible. Would Chicago lenders honestly think the City Council is not concerned about the future direction of its property tax base? As is the case with most noisy arguments, the two sides are using two different sets of language on each other.
Here is a good, practical start. Both sides should agree: An occupied, maintained property is the key to maximum long-term value protection. The private sector’s foreclosure process, like the public sector’s tax assessment process, are both expensive, time-consuming procedures. They do not belong in this real estate value preservation discussion. Because for all we know, most urban markets could return to value five years from now. So let’s not bring in the big guns. Let’s just ask: what do we do between now and when the better local markets go back to their fifty-year incremental increase in value cycle?
While there are some legal procedures we don’t want to use, there are steps we could take that are constructive. No doubt, the common language of preserving home values has to be spoken by both sides. And for sure, the dysfunctional federal insurance practices and guarantees have to seen for what they were – a means to an end. Those have to be redesigned.
In the meantime, I believe there are five steps both communities and lenders could take to try and find common ground:
1. Stop foreclosing on home units in severely distressed markets. Realtors in any market in the county can tell you whether a market is distressed or not. Usually a local market is distressed when more that 25% of local home sales involve distressed properties. Sellers will usually avoid market conditions this severe, because it is just wasting value for the sheer sake of selling a unit.
What no private-sector player can help is when an insurance or guaranty program requires that a foreclosure be pursued, regardless of market conditions. While the real estate market can certainly understand severe loss of value, it cannot deal with an insurance program that induces a full loss of value in the middle of a declining market. All private-sector players suffer from demoralization when they have to dispose of property at the bottom of the market.
2. Encourage the current owners in distressed markets to stay put – but insist they get financial counseling. Many distressed homeowners need professional counseling. They do not just need to see what interest rate they can afford. We have tried mortgage reset programs; the current market losses are bigger than that. In the most distressed urban markets, until at least the year 2015, loan balances have to be adjusted down to current market conditions.
The U.S. government may be able to help with its financial expertise; but this country is too big to expect a one-size-fits-all national real estate solution.
Just because the Congress and the Administration don’t want to know what their losses might be, does not mean that loan balances still shouldn’t be adjusted to match household income levels. Not to adjust loan balances down to match the household incomes of qualified owners is to waste these assets more than what is necessary.
Saying that we don’t have the money to preserve asset value is like saying that we should continue to waste federal money until we can find some more. This is one instance where the capital markets need to remind the political class that they are shunning their duty to the long-term future of the housing sector. When so many of the banks returned their TARP funding, the government should have insisted the funds be used to write inflated loan balances down for qualifying households.
3. Help distressed communities develop preservation strategies. When the federal government, and especially its agencies, barreled ahead and got involved in the local real estate markets, they were taking a risk. The risk would be that they would not want to fix what they broke. Now that that has, in fact, happened, we all have to recognize that real estate value is, and always has been, a local market condition.
Local communities can fix their local real estate markets. If, however, some local communities do not know how to re-establish the value of homes in their neighborhoods, they have to be encouraged to learn. Not that they should run local market recapitalization programs. Private lenders and real estate professionals can design market-based community programs for them that are reputable.
As in the case of Chicago, the City Council is developing an oversight of the distressed housing market. It might be helpful if more communities followed suit. But the federal government and its agencies have to get out of the way of local problem-solving. The U.S. government may be able to help with its financial expertise; but this country is too big to expect a one-size-fits-all national real estate solution. New agency programs which are market-based and transparent are needed to repair local housing markets. If it was the federal agencies that broke the local markets, they have to step up and help fix them. Clearly, private lenders are in no position to do so. But unlike the first go-round of federal agency real estate activity, Washington has to learn to rely upon the private sector and local forces to bring property values back. With as many as 400 local real estate markets nationwide, decentralization of effort is key.
4. Convince HUD and the federal agencies to partner with local communities. Some of the most severe market damage has been done to urban communities where there is no local market. The federal government has to figure out a way to keep distressed units in those communities occupied and maintained by households who qualify to keep up with at least the rent and expenses. Urban markets already have too many board-ups, and don’t need any more.
In less severely affected communities – in the older suburbs for example, where the market is distressed but not dead – a different strategy would work. Suburban communities need to get behind counseling for homeowners experiencing financial distress and local lenders have to know that the community cares.
In both urban and suburban markets, the federal agencies have to design occupancy programs that buy local agencies some time with the home price cycle, protecting unit value over the next five years by means of lease and investor programs. City markets need to be rebuilt using targeted rental and lease programs. Struggling suburban markets have to be spared the managerial recklessness of board-ups and expensive community maintenance outlays. Private lenders need to cooperate to stabilize suburban markets.
5. Encourage all lenders to participate in self-help, market-based community initiatives. These programs need to combine counseling with financial assistance to help write down the principal amounts of the outstanding loans. It is almost impossible to fathom the back-office legal and servicing problems that lenders have had to work through. The common sense of what they are up against is this: No one wants to book a 50-cents-on-the-dollar real estate loss. However, when each lender expects some other investor to take the first big hit in town, the town is not well served. The local shadow inventory builds, and market prices tumble.
What has to happen is that all lenders have to focus on those viable communities where they have enough exposure to warrant some locally-oriented home recapitalization effort. If several lenders join local programs – especially if the local community can help with counseling and public-sector financial support – prices can be stabilized. In this way, local real estate markets will be returned to value – one market at a time.
About the Author:
Peter Fugiel, Ph.D., a housing and public finance consultant in Chicago, is a frequent contributor to MuniNetGuide.com. His firm, PMN Community Services, provides research services to Chicago-area communities based on platform that combines real estate market analysis with municipal bond research.
Editor’s Note: The opinions expressed within this article are those of the author, and may not necessarily reflect the views of RICIC, LLC or MuniNetGuide.