How to Fix the Housing Market -- Convert "Underwater" to Equity

2010-08-29T08:46:00.007-04:00

To Fix the Housing Market -- The "Underwater" Portion of Loans Needs to Become Equity

Why? Because more than 2 million housing units are on the market needlessly with NO offsetting demand. We need to remember that MOST people facing short sales etc DO NOT want to move if their loan could be restructured to allow them to stay. (Restructured not forgiven so that teh payments could be made on a current basis). Under Fannie and Freddie rules when they do sell short they are FORBIDDEN from BUYING for 2-5 years. Thus in Florida alone perhaps 500,000 to 1 million homes are artificially on the market and that same 500,000 to 1 million buyers are NOT in the market. Getting these homes off of the market would increase property values and re-ignite the economy.

1) Lenders should get EVERY loan re-appraised (not BPO'd) upon request of the borrower. If the appraisal comes in at less than loan value the [Federal Government, Fannie, Freddie or each STATE] will pay for the appraisal if not then the borrower. (if there is a fight about the appraised value then the borrower and the lender can each also get an appraisal -- at their own expense -- and the middle number applies)

2) Where the LTV ratio exceeds 111% (so the property is now worth 90% of the loan) the loan should be written down to 97% of appraised value (at the same interest rate) provided that the borrower agrees to share the equity appreciation (above the appraised value used for the reset) with the lender. The existing loan is converted to three pieces: a loan for 80% of current value (which will be current since the homeowner will pay) on the same terms as the original loan, a zero-interest loan for 20% of current value (essentially the current equity above the 80% loan), a PARTICIPATION interest in future appreciation. The sharing should be as follows:

If a Property is sold within 18 months of the modification, the lender gets 100% of the appreciation. Thereafter the percentage of the appreciation declines by 1% every two months so that at approximately the ten year anniversary the percentage is set equal to 50% and it stays at that percentage by converting to a second mortgage at 0% interest. If the property is not a primary residence, the minimum percentage would be 66% rather than 50%. The methodology for documenting these participations and making them liquid is containing in US Patent No.: US 7,516,099 B2 dated Apr. 7,2009: METHOD FOR MANAGING A HOME EQUITY SALES PROGRAM (developed by professors at Berkeley). The US Treasury has indictaed that such an arrangement is approved under HAMP. Note to protect against fraud the lender will have approval rights over all sales which are below appraised value.

3) If a property is transferred on a less than arms-length basis the equity appreciation agreement must also transfer unless the new buyer and the lender reach a buyout agreement

4) The transaction should take place while the current "no tax liability for mortgage debt forgiveness" plan is in effect

5) The equity participation agreements should be liquid so that banks can pool them and sell them.

6) For every loan which participates in the program the [Federal Government, Fannie, Freddie or each STATE] will pay the Lender 2% of its loan amount.

7) Where properties have multiple liens -- the first lien holder should be treated as primary debt up to 80% of the current appraised value. All liens in excess of 80% of current appraised value should be treated equally dollar for dollar.

Liquidity is created: the participations can be pooled and sold as securities, the zero interest loans can be pooled and sold as securities, once the 80% loans have been current for 12 months they too can be pooled and sold as securities

The net effect would be to remove 80% of the short sales/threatened foreclosures from the market and bring back a healthy real estate market in those areas which have been most heavily hit by the downturn.

It will create a true housing market equity option which can be traded on the open market.

It will allow banks to value loans at current market value without balance sheet disasters.

Immediate benefits: perhaps 2,000,000 homes exit the marketplace, and on those homes the mortgages will become liquid and performing in 13 months which helps the banks which wrote the loans. Housing prices will begin to rise and new construction will be once again viable.

Moral Hazard concerns are dealt with by the simple fact that the lender(s) get ALL the upside for the first 18 months. There is no incentive for a borrower to try and "game" the system. Similarly if a "not-underwater" borrower wants to sell a participation agreement in the future appreciation of their house once the above plan is in place that mechanism will exist. (A 50% appreciation share is estimated to be worth roughly 10% of the current value of the home). Further once there is a liquid market for particpations, new home builders and developers can offer buyers of new homes the opportunity to finance 50% of their traditional 20% down payment via the shared future appreciation method.

The traditional concern that banks should not directly hold equity in residences is addressed by the structuring of this solution as two mortgages and a derivative.

This is a BUSINESS solution to a business problem which has been allowed to be corrupted by politics.

Fix Housing -- Fix the Economy

How to Fix the Housing Market -- Convert "Underwater" to Equity