Tag Archives: homeownership

Reiss on Rising Interest Rates

Posted on by

ABC News quoted me in Small Interest Rate Changes Mean Big Money for Home Buyers.  The story reads in part,

As the economy continues to recover from the worst recession since the 1930s, mortgage interest rates remain at historically low levels.

The Primary Mortgage Market Survey, produced by Freddie Mac, reported in mid-March the average rate for 30-year fixed-rate mortgages was 4.32 percent; 15-year fixed-rate mortgages averaged 3.32 percent and interest rates 5-year Treasury-indexed hybrid adjustable rate mortgages averaged 3.02 percent. Nonetheless, Frank Nothaft, chief economist for Freddie Mac, speculated the Fed’s gradual tapering of its stimulus efforts may prompt a rise in mortgage interest rates.

If mortgage interest rates do rise significantly in the future, what, if any effect will there be on the home buying market? According to Steve Calk, chairman and Chief Executive Officer of The Federal Savings Bank, interest rates have never been the deciding factor for whether potential home buyers actually purchase a home.

“Whether interest rates are 5.5 percent or 7.5 percent, when people are ready to buy, they’ll buy a home,” Calk said.

Price, location, size, appreciation value – these are factors many would-be homeowners consider long before mortgage interest rates enter into the picture. However, once they begin actively searching for a home, interest rates often play a role in their ultimate buying decision.

This is especially the case when interest rates are high, according to David Reiss, Professor of Law at Brooklyn Law School.

“When people think about buying houses, they think about the price of the house. But what they really should be thinking of are the monthly costs. The average 25-year-old might not think about housing rates until they go to a mortgage broker.
“Then they discover that 8 percent interest may mean that instead of a $200,000 home they can only afford a $160,000 home,” Reiss said.

*     *      *

Tight credit and persistent high unemployment have almost certainly played a role in depressing home buying figures during the recovery, as has the large numbers of home owners who perhaps bought homes at the height of the bubble who now find themselves underwater on their mortgages. However, many underwater homeowners could be missing out on a unique opportunity presented by the present financial climate. In a housing market where prices are depressed and borrowing is cheap, home buyers with solid incomes and good credit can find lenders willing to extend credit on favorable terms, ultimately putting them ahead financially, even if they sell their present homes at a loss, according to Reiss.

“Many people feel stuck in place because they are underwater or the market is bad. But although it may be counterintuitive, it could actually be a smart move to sell in a bad market. It’s a bit more sophisticated strategy, but you could move out of a cheap home into a better home for not that much money,” Reiss said.

*     *     *

Education and due diligence in maintaining good credit are the most potent tools that potential home buyers can employ, whether they are seeking their first home, a larger home or are scaling down to smaller quarters as empty nesters. Obtaining prequalification can provide home seekers with a better idea of precisely how much house they can afford, Reiss said.

Long-Term Homeownership Affordability

Posted on by

Amnon Lehavi has posted Can the Resale Housing Market Be Split to Facilitate Long-Term Affordability? to SSRN.  The paper argues that

a comprehensive affordable housing policy requires the formal splitting of the homeownership market into (at least) two distinct segments: one designated for the general public and following a conventional pricing mechanism through free market supply and demand, and the other designated for eligible households and controlling both initial supply and subsequent resale of housing units through regulated affordability-oriented pricing mechanisms.

While regulation of the pricing of affordable housing units during their initial allocation is a standard feature of housing policy–whether such affordable units are produced by a public authority or a private developer–regulation of pricing upon resale to subsequent buyers has received less attention as a matter of both theory and practice, thus leaving a substantial gap in

design mechanisms aimed at promoting a sustainable affordable housing policy.(1)

This is not really a new argument, but the paper takes the position that existing efforts to regulate resales of affordable housing in the homeownership market can be scaled up significantly. The paper does not take on some of the bigger questions that this position implicates — for instance, should scarce homeownership dollars be spent on rental housing instead — but it does develop a concrete proposal:

This paper seeks to enrich policy design options by introducing two alternative cap-on-resale mechanisms for the affordable housing segment: “Mixed Indexed Cap” (MIC) and “Pure Indexed Cap” (PIC). It explains how such models could be utilized to attain a policy goal of promoting long-term social mobility, allowing multiple low- and modest-income households to engage in capital building by sequentially enjoying increments of appreciation of properties in the affordable housing segment.

In so doing, the paper addresses a series of challenges posed by the design of a cap-on-resale mechanism: Could such a mechanism ensure that the homeowner is granted a fair return upon resale, providing the owner with proper incentives to invest efficiently in the property during the tenure, while setting up a resale rate that would make the unit truly affordable for future homebuyers? (1)

New York Ciy has experimented with affordable homeownership and has not come up with an ideal solution to the problem of affordability upon resale. Given the renewed focus on affordable housing policy in NYC, this attention to affordable homeownership policy is most welcome.

Tax Incentives for Sustainable Homeownership

Posted on by

Harris, Steuerle and Eng have published New Perspectives on Homeownership Tax Incentives in Tax Notes. The report presents

three tax reforms designed to promote homeownership that are fundamentally different from earlier proposals. Many of those earlier proposals would convert existing deductions into credits but would mistakenly, in our view, perpetuate flaws in the current system — namely, the failure to adequately promote the accumulation of home equity. The reforms examined here instead share the common characteristic of subsidizing homeownership through a channel other than the deductibility of mortgage interest, which is the largest tax expenditure for housing. These reforms include a first-time home buyer tax credit, a refundable tax credit for property taxes paid, and an annual flat amount tax credit for homeowners — all largely paid for by restricting the home mortgage interest deduction to a rate of 15 percent. Although far from perfect, these reforms would provide a better and more efficient allocation of housing subsidies and ultimately provide a somewhat larger incentive for wealth accumulation than current policy does. Our simulations show that relative to existing incentives, each policy would raise home prices and make the tax code more progressive. (1315)

This report has some drawbacks, such as overstating the case that empirical studies reinforce “the notion that homeownership improves American communities.” (1315) In fact, the empirical literature is decidedly ambiguous about the spillover and wealth accumulation effects of homeownership, particularly when the last few years are taken into account (I discuss these ambiguities here).

But the report also presents some creative ways to change the incentives that are found in the tax code. They argue, for instance, that it is better to incentivize the accumulation of home equity than unfettered mortgage borrowing. And they make proposals that would do just that.  Worth a read.

American Dream/American Nightmare

Posted on by

I will be presenting “How Low Is Too Low? The Federal Housing Administration and the Low Down Payment Mortgage” at the 2013 Meeting of the Canadian Law and Economics Association next week in Toronto. I just came back from an interesting conference at the Cleveland Fed where I was on a panel devoted to the FHA. The other two panelists presented some disturbing findings about default rates for FHA mortgages.

The two panelists were

Edward J. Pinto, Resident Fellow, American Enterprise Institute, How the FHA Hurts Working-Class Families

Joseph Tracy, Executive Vice President and Senior Advisor to the President, Federal Reserve Bank of New York, Interpreting the Recent Developments in Housing Markets

Pinto’s summary is as follows:

The Federal Housing Administration’s mission is to be a targeted provider of mortgage credit for low- and moderate-income Americans and first-time home buyers, leading to homeownership success and neighborhood stability. But is the FHA achieving this mission? This paper reports on a comprehensive study that shows the FHA is engaging in practices resulting in a high proportion of low- and moderate-income families losing their homes. Based on an analysis of the FHA’s FY 2009 and 2010 books of business, the FHA’s lending practices are inconsistent with its mission. The findings indicate: An estimated 40 percent of the FHA’s business consists of loans with either one or two subprime attributes—a FICO score below 660 or a debt ratio greater than or equal to 50 percent (based on loans insured during FY 2012). The FHA’s underwriting policies encourage low- and moderate-income families with low credit scores or high debt burdens to make risky financing decisions—combining a low credit score and/or a high debt ratio with a 30-year loan term and a low down payment. A substantial portion of these loans has an expected failure rate exceeding 10 percent. Across the country, 9,000 zip codes with a median family income below the metro area median have projected foreclosure rates equal to or greater than 10 percent. These zips have an average projected foreclosure rate of 15 percent and account for 44 percent of all FHA loans in the low- and moderate-income zips.

Tracy reported that rates of defaults by households rather than by mortgages gave a truer picture of the FHA’s success because many FHA borrowers would refinance into another FHA loan. Thus, to study defaults by mortgages covers up the real rate of default.

I believe that their studies were preliminary and have not gone through peer review, but both of them reported extraordinary default rates for certain types of FHA mortgages.

Pinto and his empirical work are very controversial so I cannot endorse his findings. But I can say that if he got it only somewhat right about predictable and ridiculously high default rates for some categories of borrowers, the FHA must immediately defend the underwriting of such loans or change its practices. It would be criminal to have predictable default rates in excess of 20% for any population. Such a rate transforms the American Dream of homeownership into an American Nightmare of foreclosure far, far too often.

Risky Business Model for Homeowners?

Posted on by

The Mortgage Bankers Association issued a report, Up-Front Risk Sharing: Ensuring Private Capital Delivers for Consumers, intended to increase the role of the private sector in the portion of the mortgage market currently dominated by Fannie Mae and Freddie Mac.  The MBA argues that to “entice private capital into the mortgage market, FHFA should require the GSEs to offer risk sharing options to lenders at the “point of sale.” (1) The report notes that about “60 percent of new mortgage originations today are sold to the GSEs. This dynamic means that the GSEs’ credit pricing has effectively determined the cost of and access to credit for a wide majority of all new loans.” (5) The GSEs’ credit pricing is thus not set by the market.  The report continues, the GSEs

are now charging more than twice as much in guarantee fees as they did a few years ago, at the same time their acquisition profile shows they are taking on very little credit risk, even compared to pre-bubble credit standards. For example, average credit scores for GSE mortgage purchases prior to the crisis were about 720; today they are 760. Similarly, the weighted average LTV of loans outside of the HARP program are in the high 60% range, several percentage points lower than in the early 2000s. With this combination of high fees and ultra conservative underwriting, it is not surprising that the GSEs are seeing large, indeed record, profits — their revenues are up and their costs are down, not through their execution, but through government fiat and a privileged market position. (2)

easy direct payday lenders

Without quibbling with some of these characterizations, I would note that I have long taken the position that the private sector should bear more of the risk of credit loss in the residential mortgage market. As a result, I welcome proposals for them to do so.  This particular proposal also reduces the role of the GSEs which, while just a partial reduction, is another welcome development.  So, this proposal appears to be good for the mortgage industry (particularly private mortgage insurers).  It is also good for taxpayers because the private sector would be taking on credit risk from the federal government.

The question that remains is whether this is the right solution for homeowners.  The MBA says that this proposal will increase access to credit.  It would be helpful if the industry could model this claim.  The lending industry has its own cycle of credit loosening and tightening, so it would make sense to understand how such a cycle would impact homeowners if we moved toward such a system and moved away from the Fannie/Freddie duopoly.

Goldilocks Homeownership

Posted on by

It has only been since the housing bust have we had a serious conversation about how much homeownership is just the right amount.  Mostly, the federal government (under both Democrats and Republicans) has pushed for more, more, more without regard to whether more was better.  Principled commentators on the Left (Paul Krugman, for instance) and the Right have rightly criticized this unthinking commitment to more, but it is very politically attractive to push policies that appear to benefit homeowners (read, voters).

Morris Davis has recently posted his Cato Institute policy analysis critique of federal homeownership policy to SSRN, Questioning Homeownership as a Public Policy Goal. Like others, he criticizes the extraordinary subsidization of homeownership through the significant tax benefits (such as the deductibility of mortgage interest on a personal residence) and financing subsidizes (through the FHA, Fannie and Freddie).  But he also attempts to quantify the subsidy.  He comes up with an estimate of $2.5 trillion.

While I agree with Davis that we oversubsidize homeownership, I am not sure that I am so convinced by the price tag he puts on it. This is because the class of homeowners overlaps so much with the class of taxpayers.  It would be very interesting if he could refine his analysis more to see if federal homeownership subsidies effect a transfer from one group to another — that refinement could lead to an interesting fight in Congress.

I was also surprised that Davis did not rely at all on the work by Glaeser and Gyourko regarding the inefficiencies of federal housing subsidies given restrictive local land use policies.  This work would support his overall argument — not only do we oversubsidize, but the subsidies don’t even help homeowners as much as we think they do.

Well, let’s see if Congress takes Krugman and Cato’s views under advisement as we chart a new direction for housing policy . . ..