Rethinking the New Homebuyers Tax Credit

The government’s $8,000 tax credit to new homebuyers has been under a lot of scrutiny in recent months. The tax credit was designed to help stimulate the housing market and lead to increased home ownership. To that end, it has been extremely successful. However, abuses within the system appear to have also been quite high. While the reverse mortgage industry found itself under scrutiny for what appear to be under about a dozen complaints, the federal government has started 167 criminal investigations and 107,000 civil investigations into possible fraud. Of the 1.4 million people who claimed the over 10 billion dollars in tax credits in 2008-2009, 60% had incomes under $50,000– leading to questions as to whether they could even afford a home.

The new homebuyer tax credit has certainly had many positive effects. Of the 1.4 million home sales, 350,000 to 400,000 were estimated to be a direct result of the credit’s availability. That accounts for 25-30% of the eligible home sales. In some areas, real estate agents have reported that up to 70% of their clients were considering buying a home as a direct result of the tax credit. With sales of existing homes at their highest level in two years, many are attributing the strong numbers to the tax credit, which expires November 30. Sales increased 9.4% in September according to the National Association of Realtors.

So which is it? It seems that the tax credit likely has had a positive effect on the market. However, the rock-bottom prices and increased inventory have also likely contributed to many first-time buyers choosing to enter the market. The increase in first-time homebuyers is a good sign for the real estate industry, but it is still a disconcerting one. If 60% of the 1.4 million people who claimed the tax credit from 2008-2009 had incomes of under $50,000, could they really afford to own a home? Will we see another foreclosure crisis within the mortgage industry down the line as these homebuyers are faced with rising rates or declining incomes? The answer to these questions remains to be seen.

While the pros of the tax credit may outweigh the cons, with the damage to the real estate industry wiping out the savings of many throughout the country, if the credit is extended, it should be done so with caution. While the image of every American owning a home is a promising one, the government has an obligation to ensure that those owning homes can actually afford to do so. Otherwise, history is at risk of repeating itself.

Sources: The New York Times: Home Tax Credit Audit Shows Abuses
The New York Times: Tax Credit Lifts Home Sales to Two-Year High
The Associated Press: Northeast Home Resales Post 11 Pct Annual Increase

"Cram Down" Legislation Threatened

US Rep. Barney Frank (D-MA)

In the wake of a meeting between mortgage servicers and representatives of the US Treasury Department last week, US Rep. Barney Frank (D-MA), chair of the Financial Services Committee, threatened to revisit the “cram down” legislation that had failed in the Senate last year. The legislation, which passed the House last year and is supported by the President, would allow bankruptcy judges to rewrite mortgage contracts when homeowners file for bankruptcy. While it remains to be seen what effect this would have on both the mortgage companies, and the borrowers, some believe that borrowers would be granted a great deal of relief from bankruptcy judges if the cramdown legislation were passed.

The problem is that there is no reason that a borrower should have to declare bankruptcy to get their mortgages modified or refinanced. And as more and more homeowners fall behind on mortgages, find themselves with motgages that are greater than the value of their homes, or both, the number of homeowners either unable or unwilling to make their mortgage payments will only increase. We talked yesterday about the problem of upside down homeowners encompassing about 32% of homeowners. The category of homeowners potentially in need of a refinance or modification is even larger.

And so while there are times when it might be useful for bankruptcy judges to be able to rewrite mortgage contracts, hopefully the government and the mortgage industry can work together to make mortgage modifications a more workable reality before the “cram down” legislation becomes necessary.

Increasing Number of Homeowners Upside Down on Mortgages

At the end of June, 24% of homeowners were upside down on their mortgages. In other words, 24% of homeowners owed more on their mortgages then their homes were worth. When added to those with no equity remaining in their homes, the percentage climbs to 32%. Nevada, Arizona, California, and Colorado are the biggest offenders with rates of 40%, 37%, 33%, and 31% respectively of homeowners whose homes are worth less than their mortgages. In some of these markets, homeowners are walking away from homes where they may owe twice as much as the home is worth or more. And when the home is worth less than the mortgage, borrowers no longer qualify for some of the programs that might be able to help them, such as a reverse mortgage.

In response, some are urging the government to begin reducing loan balances to help borrowers cope with the problem. Lowering loan payments or rates will only make the mortgages drag out interminably, and still not recoup the home’s equity (unless it appreciates again over time back to levels that are higher than during the time of the boom). If the government reduces the loan balances, borrowers will be inclined to continue to invest in their homes and stay in their residences, rather than walk away. This will reduce foreclosures, hopefully, as well as abandoned properties.

What do you think?

Leaving No Choice But to Fall Behind on a Mortgage

A new study by Northwestern’s Kellogg School of Management and the University of Chicago’s Booth School of Business revealed that 26% of borrowers who defaulted on their mortgage payments did so strategically. The study pointed out that one in six borrowers would choose to walk away if their shortfall was over 50% of their home’s equity. This finding is especially intriguing due to the falling housing prices in areas like California and South Florida, where many borrowers have found themselves incredibly upside down on their mortgages. These borrowers generally do not qualify for reverse mortgages even if they are old enough to be eligible, since they do not have enough equity in their homes.

However, it is logical that borrowers would not want to remain in a situation where the amount they owe on their mortgage is becoming increasingly more than their house is worth. And especially given the current state of the economy, some of these borrowers have found their situations change such that they can no longer afford the payments in the first place. With so many homes available at bargain basement prices, it is unsurprising that borrowers might choose to try to walk away to a better situation, regardless of the negative effect it may have on their credit.

Yet this is exactly the situation the government should be remedying. Many programs to help borrowers during the recession have left out those homeowners who are dramatically underwater on their mortgages, but these borrowers (who appear to often come in larger groups as neighborhoods fall dramatically in value) are some of the ones who need the help the most and whose mortgages, through no fault of their own, no longer make financial sense. Rather than simply becoming content to let homeowners walk away and take the hits to their credit or entrap them in their home, the government should work with lenders to establish a solution that helps bail out and reevaluate those whose mortgages are worth far more than their homes. Both sides should be able to win from the situation, rather than the current reality in which the banks, the borrowers, and the communities lose.

HUD Announces $58 Million For Housing Counseling

HUD announced this week that they would be offering $58 million in grants for housing counseling in 2009. This is an increase of $11 million from a year ago. The money is especially significant in a time when many agencies and nonprofits are finding their budgets cut, and as pressure rises, both in Congress and in the legislatures, to increase protections for consumers in mortgages and reverse mortgages. As the number of foreclosures and delinquencies are at record highs, there is even more potential for housing counseling to help homeowners avoid getting into difficult predicaments and find the right solutions to get out of them while keeping their homes. Government programs are sometimes notoriously difficult to manuver, and counseling can often help consumers make their way through the forms and red tape–or avoid getting in those situations in the first place.

It is good to see the government recognize the importance of counseling and take steps to help fund this much needed avenue.

HUD Considers Raising Insurance Premiums on Reverse Mortgages

HUD Secretary Shaun Donovan

HUD Secretary Shaun Donovan said in a Congressional hearing on Thursday that the Government could raise insurance premiums to avoid the nearly 800 million dollar influx of taxpayer money necessary to offset all the FHA losses given the current housing market, the Wall Street Journal reported on Friday. It would be the first time taxpayer dollars have gone into the reverse mortgage program in its 20-year history. Donovan argued against raising the premiums, on the grounds that increased premiums or heightened restrictions could lower participation in the program.

Secretary Donovan’s fear of increasing fees and lowering participation ought to be heeded by Congress. The reverse mortgage program is a program that can help a lot of individuals remain in their home and avoid foreclosure, as we have already seen. By adding more roadblocks, limitations, and/or costs, the government risks making the program inaccessible to the very people they wish to help the most.

New Cross Selling Restrictions Hurt Lenders and Borrowers?

Senator McCaskill in DC

At first, I was inclined to be in favor of the new “cross selling” restrictions. However, after learning more about them, I have changed my view.

One of the most popular and well-publicized examples of reverse mortgage fraud comes from lenders selling a senior a reverse mortgage, then convincing them to use the proceeds to buy an annuity or long term care insurance. This practice is known as “cross selling.” The annuity could perform poorly, the money could be invested for the gain of the broker, or the terms of the insurance could be highly unfavorable. And in many of these cases, seniors could be taken advantage of.

Hence the new series of “cross selling” restrictions that are passing through state legislatures and the federal government. The federal government’s restriction, in the McCaskill amendment to the Housing & Economic Recovery Act of 2008, is arguably the most stringent one. The amendment states that the mortgagee “shall not participate in, be associated with, or employ any party that participates in or is associated with any other financial or insurance activity;” This language can be extended to include tellers and savings accounts, let alone all insurance products and 401(k)s. There is an “or,” however, which states that the mortgagee can do the above if they prove to the Secretary that the mortgagee maintains firewalls and safeguards to ensure that the originator has no incentives to provide the mortgagor with any other financial product and that the mortgagor does not need to purchase any other product as a condition of the reverse mortgage. This means that, provided that it can be proven adequately that safeguards are present, other financial products may be able to be sold by mortgagee.

The principle of the law is correct. Clearly it is important to protect seniors from fraud. Cross selling can prove disadvantageous for seniors, especially when the mortgagee is being compensated for the other products–something the senior may or may not be aware of.

However, there are other instances where cross selling may be advantageous. A senior may wish to place the money in a savings account or open up a credit card with the bank behind their reverse mortgage. They may decide to purchase a long term care insurance plan. These products can be favorable, and seniors should be able to purchase them.

The current law means that reverse mortgage lenders can only discuss a reverse mortgage with their client. If the client asks them about other options, they are not permitted to answer. Many seniors have long-term relationships with their banks or financial advisors. These seniors should not be forced to go to a variety of sources, leaving the person whom they trust and have a long-standing relationship with, just because they are considering a reverse mortgage. Such a policy has a potential to cause more harm than good.

Seniors have the right to evaluate all their options. Hopefully HUD’s interpretation of the McCaskill ammendment will still enable seniors to discuss alternatives to a reverse mortgage with their financial advisors and/or discuss options for what to do with the money, if they wish to do so. Cross selling could be prevented by a more narrow law. But the McCaskill ammendment takes it too far.

Reverse Mortgages Abroad: The UK Equity Release Program

England, home of the Equity Release Program

England, home of Lifetime Mortgages

Sometimes it is interesting to step back for a moment and reflect on the happenings in other countries.

Today, I stumbled across Responsible Equity Release, a UK site that specializes in lifetime mortgages, the British equivalent of a reverse mortgage.

The interesting thing about the equity release program is that while it has many similarities to the US program, some of the types of equitable releases are not available in the US. While a Roll Up Lifetime Mortgage is most reminiscent of the US reverse mortgage program, Fixed Repayment Lifetime Mortgage and Home Reversion Schemes do not exist in this country. In a Fixed Repayment Lifetime Mortgage, the amount to be repaid is decided upon before the mortgage is taken out. When the homeowner dies or sells the home, the amount due is the fixed amount that was determined at the offset. In a Home Reversion Scheme, the borrower sells all or part of the value of the property in exchange for a lump sum. When the borrower sells their home or passes away, the home is sold with the portion of the property still owned by the borrower going to the estate, and the rest going to the plan provider.

A fixed repayment lifetime mortgage program would probably be extremely popular in the states, as it avoids the interest rate calculations that borrowers must wrestle with when they choose between a fixed or an adjustable mortgage, Libor or HECM.

Many countries also have programs similar to the US reverse mortgage program. More to come.

Is Government Involvement in the Reverse Mortgage Market a Good Thing?

At the end of yesterday’s post, I added a line on how government involvement in reverse mortgages was a good thing. And then I pressed publish. However, it took only a few moments for me to realize how complex an issue government involvement in reverse mortgages is–everything from government involvement in the financial market to the real estate market to reverse mortgages in particular. A throw away sentence is inadequate to address this issue. Should the government be involved in regulating reverse mortgages or not?

The reverse mortgage market is a particularly interesting one because it contains two sectors. Government insured loans comprise the majority of reverse mortgages. However, a smaller percentage (about 10% and growing) consist of proprietary reverse mortgages–mortgages carried out without the backing of the government.

Recently we have seen the state governments attempt to regulate the proprietary market. In several instances, these regulations extend some of the same protections offered to federally backed loans to proprietary loans. These protections help protect the consumer from fraud and the lender from a lawsuit and should be considered a good thing, for example allowing a reverse mortgage to be cancelled in the 10-30 days immediately after the closing and requiring the lender to notify the borrower of all the fees involved in the transaction. The federal government has a responsibility to help prevent fraud and protect its citizens. In an environment that is as economically predatory as this one, carrying this responsibility into the potentially dangerous world of reverse mortgages makes sense.

However, in some of the other parts of the proposed bills, government involvement is not as intuitive. For example, some of the new recommendations include complex new rules regarding the licensing of reverse mortgage lenders and brokers. While states have generally controlled who practices what in each state (medicine and law are the two largest examples of statewide certification; education is a close third) requiring specific reverse mortgage certification, even from lenders who are otherwise licensed to complete loans and mortgages, may seem a little extraneous. But given that every state does have different laws regarding reverse mortgages, it seems logical that state practitioners should be knowledgable of their state’s requirements.

So what should the state governments stay away from? Fundamentally, if a person chooses to complete a proprietary reverse mortgage, they have chosen to not receive the protections entitled to them in a federally insured HECM. This does not mean they should not be educated to make sure they are making the right decision, nor does it entitle them to be defrauded. However, the market for third party proprietary reverse mortgages is growing, indicating the demand for something outside of the government programs. The government should allow such a program to be executed by third parties, provided it is executed in such a way that protects its citizens and does not defraud.