Signs of a Real Estate Bubble Posted by: Dale Franks
on Wednesday, July 09, 2008
There's a new business here in California. They only operate here now, but they plan on expanding nationwide. They provide a special service for homeowners who can't afford their mortgage any more. Their business name is You Walk Away.
As you can guess, they help you skip out on your mortgage. For $895, they give you a session with a lawyer to outline your foreclosure options, provide all the paperwork filing, prevent your mortgage-holder from hassling you, and tell you how long you can live in your house for free before you will be required to move out.
Now, I just saw this on TV this afternoon, and my first reaction was negative. I mean, they're just helping people screw the mortgage company.
If banks can make "business decisions" to ignore risks, to lend money with no down payment, and fire people at at the first sign of trouble without any remorse, why shouldn't consumers be able to do the same?
Take a look at previous values on homes now being auctioned. Did not lenders make a business decision to ignore insane valuations placed on those homes?
Indeed they did, and one reason was they could securitize the garbage and sell it to pension plans and foreign investors as far away as Norway (see Citibank SIVs Hit Norway Townships). Is Citigroup about to refund Norway townships for the mess it created?
Another reason banks ignored insane valuations is they thought lucrative fees would more than make up for losses on foreclosed properties. They thought wrong.
As a result, lenders became home owners and are now in hock with the auction business.
Now, that's an interesting way of looking at the situation. The banks knew, or should have known, that the valuations for which they were lending money—with no down payment, natch—were insane. They made the business decision to make the loans anyway, expecting to recoup their money through securitizing the loan portfolio, raking in the fees, etc.
Turns out they were wrong. So, the investors in those portfolios get screwed, banks write off loans, and employees are fired, all so that the mortgage company can try to ameliorate the penalty for making the bad loans.
When the homeowner decides to "Just Walk Away" from a loan they can't afford, they pay a penalty, i.e., the impairment of their credit for a number of years. It's just a business decision for those customers, and they suck up the penalty for that decision.
So, should the mortgage companies get off scott-free from facing the results of their poor business decisions when it comes to the loans—loans they shouldn't have made in the first place?
No, they shouldn’t. I don’t endorse walking away, but when you take out a loan, and offer collateral, it is assumed that one possible recourse is to give back the collateral. Since lenders don’t want that to happen, they are supposed to examine the worth of that collateral pretty carefully, and get some money down. That way it isn’t in the interest of the homeowner to "walk away" even if they don’t mind the damage to their credit.
The lenders didn’t do either, now people are returning the house when it is in their best interest. I don’t count on the benevolence of my bankers, I suggest they shouldn’t have counted on consumers to take it on the chin for their sake either. Nor do I want our government, or the Fed, to keep bailing them out, either directly or indirectly by helping people keep houses they cannot afford. Neither is likely to work anyway.
I’ve never thought "walking away" bad. IF you bought the house as an "investment" you have to examine the value of the investment versus its cost...Now me, I bought a "home"; my partner and I live here and expect to retire here. It’s our “home” not an investment and it’s an entirely different mindset. Sure I want my home to increase in value and realize that its sale, at some future date, will provide some extra cash for our retirement, but my partner and I did not purchase the house to flip or to re-sell in a few years, once its value had appreciated.
But for those in CA and Los Vegas or Hilton Head Island who did buy as an investment, well think of their investment as the purchase of $300,000 of Country Wide preferred stock. They bought $300,000 dollars of Country Wide Financial at price “X”, now the stock is at .5 X, value $150,000. What do you do? You have two options, hold on or sell. If you hold on you may recoup your investment, at least, and possibly show a return, a modest one, IF Country Wide Financial can restore itself to health or is purchased and the purchaser can restore it to health, in short it has become a medium-term/long-term investment. Or you can sell…you take a bath, but you’re out from under.
Your decision to buy or sell depends on your investment time frame and your belief about the prospects for that stock in the time frame. If you are a short-term investor and you think that Country Wide is in the tank for a year or two years or mayhap it’s going to go belly up, well you sell and take the bath. If you’re not willing to ride it out or you think there’s something to be ridden out you don’t…
So if you bought a house in CA, of Vegas, or Hilton Head solely as an investment you have to make that sort of decision…get out from under a mortgage on a property that is only 60% of it’s mortgage value, take the hit on the credit score and move on, OR ride out the storm. But it is purely a business decision…. I don’t know that you’re a moral reprobate if you decide that you are in a bad situation and you just walk away. It might make sense to do so…though I certainly hope your legal and financial counselors point out that you could take a pretty big hit on your credit rating and you won’t be getting another home loan for a while and you might not get another car loan any time soon, plus if you walk away, and still own property well getting an equity line of credit will be difficult, so you’d better hope that the roof and the HVAC stay good for the next 7 years. You just have to weigh your costs and benefits.
As my partner and I did not intend to flip or re-sell we chose a much smaller home and would NEVER consider walking away, we’d be walking away from our HOME…but if your house was merely an investment, akin to stocks then it’s different and you judge things differently.
If you’re going to end up being forclosed on, might as well soften the landing.
But, going this route is only worth it if you are going to get foreclosed on eventually anyway. It will damage your credit rating and it should.
I’m not going to put the onus entirely on the lender for a bad mortgage in all cases. There are probably many cases where the borrowers knew they might not be able to support the mortgage. And some of those probably actively deceived the lenders as well.
On the other hand there are many out there who are in delinquency status and on their way to forclosure who call that house a home as well. They just are not able to pay for it. They were over extended the rate went up on the mortgage and some had lost their jobs. So this isn’t just the investment situtation here. I know I’m in the business in my state of interviews on delinquency and foreclosures, bankruptcy and vacancies and all that other crap. I see it every single day for 23 yrs now. I know the cycles and this is the worse of them all. Yes, investments going bad but you would not believe the amount of homes as well. People had big ideas and were buy champagne taste on a beer purse if I may be so blunt. Realtors, Banks and Buyers are to blame for this and let’s not forget the government. I believe that because the homeowner should be aware of what they are realistically getting into they should be responsible, the banks, bad bad decisions, realtors, shame on them. I could give you hundreds of examples. I have three photos on this computer of the inside of a home. Sprayed on the drop ceiling upstairs are the words "Now where am I going to live" on the floor is the outline of a body and a bloody carpet. The stairs leading up are blood stained and blood on the wall. Does anyone here understand this mortgage situation we are in? It’s not just all the sub-prime and other bad loans it’s people losing their jobs, illness, you name it and it’s snowballing right now. It’s the economy in general right now. I’ve in the last year and a half watched our companies volume increase to numbers I’ve never seen in 23 yrs. Is anyone following me. I deal with this every day and sometimes I forget you aren’t in my business and can’t follow what I’m trying to get across.
Dale, I agree as well. There is plenty of blame to go around. The question I have these days is, what shape will this country be in when this is all over and when will it be over. Actually I have to shake my head when I think about it. During the day I work my tail off trying to get everything done with in the time frames and that is increasingly harder and harder each month. I do know that if gas prices don’t come down, my inspectors will be visiting the houses on foot, sans their cars. What a mess.
Yes, they should walk away if necessary. It’s a business decision. The bank decides what loans they should extend. Who can be responsible for the extension other than the bank that loaned the money? The borrower pays in a different way also.
This is no different than credit cards. I hated the law Congress passed for the credit card companies. It only encourages bad lending practices.
Personally, I don’t loan money to people who I don’t think can pay me back. Why should a business who is in the business of loaning money be less accountable than me?
Without getting into the economic differences inherent in an investment property vs. a "home," (The Economist’s blog did that much better than I could), I don’t think there should be anything preventing a property owner from walking away.
Like "Reader," I’m involved in the foreclosure industry, and I know that there are a ton of loans out there that shouldn’t have been made because either the lender made a bad decision, the borrower overestimated their ability to handle the monthly payment, or both. Given the current problems with trying to sell a house quickly today, many property owners aren’t going to be able to get out from under a mortgage delinquency if the mortgage servicer can’t agree to modify the repayment terms. In that case, it’s less stressful (I’m assuming) to walk away from a house and at least have some control over the situation than it would be to wonder when the local Sheriff will come to evict you.
The trick for the homeowner is to balance the purely financial benefits of walking away with the perceived value of one’s "home."