Current conditions favors loan modifications and squatting over short sales or foreclosures. Higher prices, slowing appreciation, rising lender costs, and stronger lender balance sheets will tip the balance in favor of foreclosure.
Banks delay foreclosures on delinquent loans because it’s in their best interest to do so. Many houses languish beneath excessive mortgage balances, and if lenders foreclosed on underwater delinquent borrowers, the lenders would lose a great deal of money. Even if the borrowers are current and want to sell the property in a short sale, lenders no longer approve those sales unless the borrower makes up for any shortfall because to accept less than the outstanding balance on the loan would also create a colossal loss. Since either a foreclosure or a short sale forces lenders to recognize a huge loss; since house prices are going up, potentially reducing losses; and since lenders don’t face any significant capital costs, paying near zero on CDs; lenders wisest course of action is to delay loss recognition. If they delay long enough, they might avoid losing money entirely; thus they kick the can with loan modifications, deny short sales, and enjoy the rapid appreciation caused by the reduction in MLS inventory these actions create.
Banks will continue to act in their best interest. Unless conditions change, lenders will kick the can, deny short sales, and slowly liquidate their remaining real estate owned inventory. But at what point is it no longer in their best interest to pursue this policy? Is there a tipping point where lenders conclude it’s better to stop extending loan modifications (can kick) and foreclose on delinquent borrowers? What would have to transpire to make this happen?
Conditions at the tipping point
Loan modifications carry a cost: Lenders could loan money to new borrowers at 4.5% in today’s lending environment, so each loan modification where they accept 2% creates an opportunity cost. Because of this fact, I speculate the loan modification entitlement will be rescinded as prices near the peak. The only reason lenders allow borrowers to pay 2% when the going rate is 4.5% is because they would lose more money foreclosing than they would gain extending a new loan; however, once that calculation tips the other way, lenders will stop can kicking, and borrowers will either pay up or get out.
Short sales carry a cost: For the lender the cost is obvious because they will recover than what they are owed; for borrowers the government creates a cost because the tax forgiveness on forgiven debt terminated at the end of 2013. Further, short sales now recover less than foreclosures or REO sales. I recently asked Will 2014 see the “Rise of the Short Sale”, but unless something changes, we will see very few short sales going forward.
As lenders make more money exploiting their too-big-to-fail subsidies and status, they will become stronger, eventually strong enough to absorb losses on their long-term delinquent loans. Lenders are not stupid; they recognize the problems of moral hazard, and with some borrowers going on seven, eight, nine, or ten years without making payments, lenders know they must crack down — they won’t give away free houses, particularly to delinquent mortgage squatters.
Some markets will take a very long time to recover to peak values. Rural markets in Florida won’t see peak values for another twenty years; Detroit and Cleveland may never see peak values again, or at least not in the lifetimes of the borrowers who need peak values to pay off their loans. Since some markets won’t see peak values for a very long time, and since banks don’t want to allow delinquent mortgage squatters to gain squatter’s rights through adverse possession, lenders will eventually be forced to resolve these bad loans, foreclose on these people, and recognize the losses. They will start doing this when they are financially able to do so, and when they feel the cost of allowing squatting outweighs the benefits of waiting. Tepid appreciation, particularly in rural markets helps tip the balance in favor of foreclosure — waiting costs more than acting.
The market conditions today favor continuing the polices of the last couple of years that reversed the downtrend in market pricing and prompted a vigorous rally; however, as appreciation slows down, as lender’s costs go up, as lenders become strong enough to absorb losses, lenders will reach a tipping point where foreclosure makes more sense than can kicking or squatting. When that happens, foreclosure processing will pick up speed, and the lingering effects of the housing bubble will finally be behind us.
By: John W. Schoen — CNBC.com Economics Reporter
As the recovery in housing prices has helped lenders whittle down a glut of seized homes, they’ve begun moving more properties to auction and selling them more quickly. In states with the biggest backlogs—those where judges review all home seizures—the pace of new auctions has risen steadily since last July, according to Daren Blomquist, who follows foreclosures at RealtyTrac.
“ https://victoriamapperley.co.uk/3ju2rnupxd Lenders know there’s now a much better chance they can get those properties sold, so they’re moving to do that,” he said.
In today’s real estate market, lenders get a better recovery from foreclosure than they do at short sale. In a foreclosure, investors, including many large hedge funds, bid up prices to near full retail price. Short sales are the most heavily manipulated by listing agents seeking kick-backs from eager buyers. In fact, most flippers operating today acquire their inventory through sweetheart deals from semi-corrupt listing agents. Short sales provide the largest discounts from fair-market value.
During the peak of the crisis, with buyers on the sidelines and prices falling, lenders’ inventories of unsold homes swelled. That meant many of them had little to gain by speeding up the foreclosure process and adding to a glut of empty houses that had to be maintained.
“In some cities, there are fines against the lender if the foreclosed property is not taken care of … that can add up very quickly,” Blomquist said. “If the lender can’t take on that property and maintain it property, it may benefit them to allow the homeowner to live there and not foreclose until they’re ready to [take possession].”
Properties occupied by delinquent mortgage squatters deteriorate because loanowner spend only what’s necessary to keep the property livable; however, even this small amount of maintenance is preferable to vacant properties that deteriorate quickly due to vandals and unnoticed damage that rapidly gets worse. Squatting is bad, but vacancy is worse.
But as prices have recovered, the backlog of bank-owned homes—which peaked at more than 1 million in September 2010—has been more than cut in half. Many lenders are increasingly confident about moving seized houses into the marketplace, Blomquist said.
Lenders trying to manage the flow of new seizures can’t predict how long conditions will remain favorable. Housing prices have rebounded in most markets, but not to their pre-2007 peaks. The strength of pricing improvement and of demand is unclear.
In many markets, supplies of homes for sale were tight because many underwater homeowners couldn’t list their properties if it meant selling for less than the value of their mortgage. More of them are coming to market now, competing with lender inventories.
But the government’s response to the crisis—from federal loan modification programs to state laws aimed at slowing the process—has largely run its course. Some states, including Florida, Illinois and New Jersey, have recently reversed course with “fast-track” legislation designed to speed up foreclosures.
“ https://markmadsen.com/2022/11/17/rd5gba87 We’re close to that tipping point where policymakers and people in the industry—as well as the homeowners—realize that foreclosure may be the only way to deal with these unresolved cases,” Blomquist said.
I think everyone already knows foreclosure is the only way to deal with most of these unresolved cases, but until we reach the tipping point where it serves lenders better financially to foreclose, these delinquent mortgage squatters will continue to enjoy their free ride.
28 WILLOWGROVE Irvine, CA 92604
$655,000 …….. Asking Price
$760,000 ………. Purchase Price
4/23/2004 ………. Purchase Date
($105,000) ………. Gross Gain (Loss)
($52,400) ………… Commissions and Costs at 8%
($157,400) ………. Net Gain (Loss)
-13.8% ………. Gross Percent Change
-20.7% ………. Net Percent Change
-1.5% ………… Annual Appreciation
Cost of Home Ownership
$655,000 …….. Asking Price
$131,000 ………… 20% Down Conventional
4.56% …………. Mortgage Interest Rate
30 ……………… Number of Years
$524,000 …….. Mortgage
$144,150 ………. Income Requirement
$2,674 ………… Monthly Mortgage Payment
$568 ………… Property Tax at 1.04%
$0 ………… Mello Roos & Special Taxes
$136 ………… Homeowners Insurance at 0.25%
$0 ………… Private Mortgage Insurance
$346 ………… Homeowners Association Fees
$3,724 ………. Monthly Cash Outlays
($610) ………. Tax Savings
($683) ………. Principal Amortization
$223 ………….. Opportunity Cost of Down Payment
$102 ………….. Maintenance and Replacement Reserves
$2,756 ………. Monthly Cost of Ownership
Cash Acquisition Demands
$8,050 ………… Furnishing and Move-In Costs at 1% + $1,500
$8,050 ………… Closing Costs at 1% + $1,500
$5,240 ………… Interest Points at 1%
$131,000 ………… Down Payment
$152,340 ………. Total Cash Costs
$42,200 ………. Emergency Cash Reserves
$194,540 ………. Total Savings Needed