Economists calculate that the decline in home prices has cost American homeowners approximately $7 trillion in home equity. Compounding this problem is the fact that the inventory of homes available for sale remains high and there is potential for a significant volume of “shadow inventory” to hit the market. Intervention is necessary to support the fragile recovery in the housing market and to prevent further declines in home values. What steps must policy makers take to prevent the loss of additional trillions in home equity?
The abundant supply of homes available for sale presents opportunities for first-time homebuyers and “move-up” buyers as affordability is at an all-time high. Many, however, are hesitant to make a move as they wait for values to reach “bottom.” Action is necessary now to establish a balance in the supply and demand for residential housing in America.
Federal Deposit Insurance Corporation and the Residential Trust Corporation (FDIC/RTC) experience demonstrates that structured public/private partnerships can be successfully used as a vehicle to convey a large volume of assets of varying types and levels of quality to private-sector ownership and management, in a relatively short period of time, by appealing to a diverse group of investors who intend to employ geographically-targeted asset disposition approaches.
Applying FDIC/RTC experience to Enterprises and Federal Housing Administration (FHA) Real Estate Owned (REO)
As the strategy applies to the Enterprises and FHA, structured transactions would require joint ventures or partnerships between the Enterprises and FHA and private sector entities which are designed to facilitate the disposition and management of distressed real-estate assets.
The Enterprises and FHA make available for bulk sale all one-to-four unit single family homes and condominium REO inventory (properties may be tenant-occupied or vacant at the time of disposition). Bulk buyers are asked to construct custom REO pools (“Pick and Choose”) based on their specific investment objectives.
Once the investor completes the “Pick and Choose” process, the Enterprises and FHA forms an entity (to date, all Limited Liability Corporations or “LLCs”) to which a custom REO pool is conveyed. Under the structured transaction partnership program, the Enterprises/FHA act essentially as a passive participant or limited partner (LP), with a private-sector investor who is responsible for managing the assets and acting as the general partner (GP).
In exchange for contributing REO assets, the GP conveys a shared percentage of cash-equity (50/50 split, for example) ownership back to the Enterprise and FHA. The remainder of the purchase price is then financed through issuance of tax-free Housing Recovery Bonds. These notes would be issued by the LLC as payment to the Enterprise/FHA for the assets conveyed to the LLC by the Enterprise/FHA.
Planned use of properties, with a focus on maximizing returns under strategies tailored to local economic and real estate conditions.
Once assets are purchased by private investors, the use or disposition of those assets will be at the discretion of the buyer’s investment objectives within the constraints of Agency objectives. For example, in the hardest hit localities, where buyer uncertainty is most intense, it would be more appropriate to incentivize long-term ownership through “Rent to Hold” and “Lease to Own” structures. However, in areas where sales comparables are not greatly distorted by an oversupply of distressed assets, the Enterprises/FHA would better meet the stated objective of improving loss recoveries (ultimately improving overall execution as the program evolves) by incentivizing bulk investors who intend to “Rehab and Sell” real-estate assets to first-time home buyers and baby- boomers looking to downsize their housing needs.
Steps taken to ensure that the properties are well maintained and managed during the period they are rented or otherwise held off the market.
One potential option is for the Enterprises and FHA to partner with municipalities who designate dedicated coordinators or teams to inspect properties. In that scenario, states/municipalities would focus on aggressive code enforcement and nuisance abatement, as well as making it easier to reclaim properties by amending receivership and eminent domain laws to make them more effective for the current crisis.
Given the large number of REO properties, many of which have been on the market for extended periods, prompt rehabilitation is critical to maintaining a marketable property. HUD and FHA could also consider allowing investors to utilize the “old” FHA 203(b) and 203(k) programs – which were generally successful but ended in the late 1980’s -for the rehabilitation of single-family homes. Historically, these programs offered a practical solution for homebuyers looking to purchase a home in need of repair.
After a reasonable “first look” offer to owner-occupants, these FHA fixed rate 30 year mortgages could be made to investors to buy up the existing inventory. Individual investors, municipalities, and nonprofits represent a unique and underserved class of prospective homebuyers that require financing. Providing these groups with financing, especially rehabilitation financing like offered through the 203(k) program, would go a long way towards soaking up the excess inventory in the housing market. These investors are capital constrained and more inclined to creating bridges to occupant ownership over time through such mechanisms as “rent to own” programs. Without some sort of bridge or path to occupant ownership the Administration risks creating massive absentee ownership that could lead to
more blight and damage to communities.