Several months ago, I was asked to write a memo on the cost of fixing the nation’s foreclosure and housing mess. In that memo, I opined that it would cost over $750 billion.
Recently, the federal Housing and Urban Development Department and states’ attorneys general issued an announcement that they had negotiated a settlement with several of the nation’s five largest mortgage lenders (Ally Financial, Bank of America, JP Morgan Chase, Wells Fargo and Citibank) that would transfer $25 billion from these large institutions to borrowers who are underwater on their mortgages. Apparently, only $18 billion is targeted to go to homeowners the rest to the states and the federal government.
Anyway you cut it, there is a big difference between $750 billion and $25 billion.
It is estimated by mortgage consulting firm CoreLogic that there are about 10.9 million homeowners whose mortgages are greater than the value of their homes, about 22.7 percent of all homes. While these five banks represent the largest lenders and are also some of the largest recipients of taxpayer TARP support (they received a combined $157 billion), there are thousands of lenders who are unaffected by this settlement. This recent settlement covers only a small fraction of those 10.9 million homeowners. That being the case, this $25 billion is far short of what is necessary to fix this vexing drag on the U.S. economy.
This settlement is a great front page story and may play a role in the upcoming presidential election, but it will not solve the housing mess. There are many things that need to be done to fix the current crisis and to insure that we do not repeat the mistakes of the past. However, there are two steps that are necessary in order to address this crisis once and for all.
1) Every mortgage under some reasonable amount (perhaps $300,000) that is underwater should be refinanced at the current market value by all lenders. This would lower mortgage payments to reflect the current market. For example, a homeowner’s mortgage was written down from $250,000 to $190,000 would mean that at current mortgage rates of 3 percent and assuming a 30 year term, the homeowner’s monthly principal and interest would decline from $1,054 to $801.05. The savings are even more if you take into account that most of the mortgages that are underwater are at significantly higher rates. Going from $250,000 at 7 percent to $190,000 at 3 percent represents a savings of over $850 per month.
2) Lenders should be allowed to re-capture home price appreciation when the home is sold that reflects the current write down. Now if the homeowner stays in the house for some time and housing prices rise, the lender should be the recipient of capital gain up to the present value of the amount of the write down. In the example above, the lender has written down the mortgage by $60,000. When housing markets turn around and the house is sold, the lender is paid the capital gain up to the present value of the current write down at the refinanced rate.
This simple change would free up billions of dollars in consumer wealth that could grow the economy while not devastating bank balance sheets. This change would not target a select few lenders and therefore would benefit a larger number of borrowers. Think of what homeowners across America could do with an additional monthly increase in spendable resources.
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Fred McKinney is president and chief executive officer of the Greater New England Minority Supplier Development Council in Hamden. Since 2000, he has been an economic consultant to the Federal Home Loan Bank of San Francisco. The views expressed here are McKinney’s and not those of the bank.
