by Guest Blogger: Kenneth Stewart
If it is true that the housing bubble was the root cause of the financial crisis, it seems an obvious solution would be to delay an immediate devaluation of housing stock, based on the premise that home values could recover nicely over time if corrective housing policies are put into place. Financial institutions are being hit by the double-whammy of mortgage foreclosures, and expectations that future foreclosure rates will be even worse, which devalues a wide range of real estate-related assets. As the foreclosure scenario plays out, home values take another hit, and a vicious cycle is perpetuated. The answer to the question of how to halt this vicious cycle may lie in a commonly used tool in the affordable housing field: low-interest rate, deferred second mortgages.
The mortgage program would work as follows. A homeowner with a mortgage they can no longer afford would go to their lender with a proposal: refinance my loan at a principle balance and interest rate I can afford, and I will get a second mortgage from my local government/nonprofit program administrator such that the combined refinancing proceeds will equal 90% of the current outstanding balance. In other words, take a 10% loss and convert your asset from a non-performing loan to a well-underwritten conventional mortgage. Localities have already been granted funding in the recently enacted Housing Bill that can be used to fund second mortgages. The Treasury Department would be well-advised to dump a significant portion of the Wall Street bailout package ($250 billion would be helpful) into this kind of initiative. The government would be directly investing in citizens and communities, as opposed to risky, complex securities, and banks and financial institutions would be clear indirect beneficiaries by limiting the loss of loan principal.
The program would have to be limited to homeowners who could afford a conventional first mortgage of at least 60 percent of their current balance. If they are unable to afford that minimum, it means they could never afford the home in the first place. The government should not attempt to provide a stop-loss for such poor decision making, and possible fraud, on the part of the parties involved. Where the program is applied, lenders would still face a write-down in various residential assets–albeit smaller at 10% write down — plus the loss of any prepayment penalties that would compensate them for the loss of future up-ward adjusting interest rates. If we couple this with some type of moratorium on the amount of commission that can be earned by realtors and appraisers involved in the sale of foreclosed properties, then the parties who came together to create the mess will have to share in the pain of correcting their mistakes. A salary cap for the executive leadership of participating financial institutions would complete the circle.
As tempting as it may be to leave those responsible for the housing bubble at the mercy of the market, the best approach would be a program that targets the root cause of the current crisis, through direct investments in the hardest-hit communities. A well-structured nationwide second mortgage program could achieve many important results. Banks would benefit from having hundreds of thousands of loans refinanced with the lowest possible loss of principle, cities would stabilize neighborhoods and protect their tax base by keeping homeowners in place and avoiding foreclosure sales that would drive market values down even further, homeowners would benefit by keeping their home and getting some protection as related to their equity position, and local housing agencies and their nonprofit partners would benefit from having a role in closing and servicing second mortgages that would give them a new source of revenue, as well as a vested interest in getting home values back up to maximize recovery of funds invested for the second mortgages. Such a program would still require billions of dollars in federal outlays, but it would be through a mechanism that allocates the pain as well as the benefits as broadly as possible, while focusing efforts on stabilizing home values – which is the root cause of the problem.
Mr. Stewart currently underwrites equity investments in affordable housing projects for Enterprise Community Investments in Columbia, MD. Prior to going to Enterprise, he was with the Prince George’s County Department of Housing and Community Development (DHCD), serving first as Deputy Director for Capital Markets, and later as the Deputy Director of the Redevelopment Authority, where he had primary responsibility for the tax-exempt bond,, homeownership, and the federal HOME block grant programs. Prior to his appointment at PG-DHCD, Mr. Stewart served as Director of Public Finance for the D.C. Housing Finance Agency, where he was responsible for processing, underwriting, structuring and closing transactions involving the issuance of over $300 million in tax-exempt bonds. He holds a B.A. from the University of Denver, (Denver, Colorado), and a Master of Arts in Public Administration from Howard University, (Washington, D.C.).
