Jun132014

Debt is the problem, not the solution

Americans have too much mortgage debt, student loan debt, credit card debt, but the only solutions offered by Washington create even more debt.

louie_lender_lampreyIt’s un-American for banks to lose money. American banks are rarely forced to write down a bad loans by regulators, and legislators bail out banks when they get in financial trouble. Our legislators suffer from the collective delusion that what’s good for the banks is good for America; in reality, the opposite is generally true.

Right now, what’s good for the banks is preserving the book value of loans even when the market value is considerably lower. Regulators allow bankers to post whatever value they see fit based on their “sophisticated” financial models, preventing bankers from recognizing the diminished value of the loans on their balance sheets; this also keeps this burdensome debt on the balance sheets of ordinary Americans who can often not afford to service this debt.

The excess debts carried by most Americans prevents them from spending more because so much of their income is spent on debt-service payments. The best solution to this problem is to wipe out the debt through repayment, or default and bankruptcy. Any money put toward debt service is money not circulating in the economy to purchase goods and services. Rather than alleviate the debt problem, lenders would prefer to provide more debt so borrowers could pay their debt service and stimulate the economy through more spending. Unfortunately, that is a Ponzi scheme.

How debt piles up

overborrowImagine a borrower with $10,000 in credit card debt. If they make the minimum 2% monthly payment, they spend $200 per month, most of which is debt service. A person with no debt who earns the same income gets to spend that $200 per month on goods and services; the debtor does not.

Now let’s assume the two workers get a $5,000 per year raise. The debtor could put the extra money toward paying off the debt (and be criticized by liberal economists for prudent austerity), and after a while, they will be debt free so they too could spend more, but lenders have an alternate solution: since the debtor is making more money, they extend him more credit so he can go spend $5,000 now rather than have to wait and save for a year to have $5,000 extra. The patient saver always comes out on top because they waste no money on debt service, but in the short term, the irresponsible debtor enjoys a higher quality of life, so the debt piles up.

To a banker, and apparently to our politicians, debt is not the problem; it’s their preferred solution: They really believe we can borrow our way to prosperity. The reality is that the solution to excessive debt is never more debt. Deleveraging is a good thing.

irresponsible_lenders

Congressional inaction on debt forgiveness bill affects short sales

June 8, 2014

First enacted in 2007, the law allows qualified owners who receive debt cancellations from lenders through short sales, foreclosures and loan modifications to be exempt from the federal tax code’s standard requirement: Any amount of debt that is forgiven by a creditor generally is treated as ordinary income to the borrower, taxable at regular rates. During the housing bust and its aftermath, the mortgage debt forgiveness exemption has proved invaluable to large numbers of owners who ended up — often through no fault of their own — with underwater mortgages.

More often than not, people with underwater mortgages borrowed themselves into oblivion with excessive mortgage equity withdrawal. This tax break should only have applied to purchase money mortgages from the outset.lose_house

With the expiration of the debt forgiveness statute, owners who do short sales during 2014 cannot be certain that they will avoid taxation on their forgiven mortgage debt. In the absence of a reauthorization by Congress retroactive to Jan. 1, there is a real possibility that short sellers in most parts of the country will face hefty income tax hits next year. (California residents are exempted on short sales because of an IRS interpretation of state law.)

I had no idea California residents were exempt. How is that fair to flyover country?

The expiration of the law already is affecting the broader housing market. According to data from the National Assn. of Realtors, short sales have plunged from roughly 10% to 12% of home transactions in recent years to between 4% and 5% this spring.

I believe this tax exemption will not be extended. Although realtors may be lobbying for it, the banks don’t want to encourage short sales: first, they lose money, and if they force the borrower to wait until prices rise further, the bank won’t lose money; second, short sales become additional inventory that slows appreciation. By keeping these short sales off the market, there is less inventory for buyers to compete over, and prices keep going up — which improves the bank’s capital return rates.

The bigger point here is that allowing the tax exemption for debt forgiveness to expire keeps debt alive and benefits the banks over the interests of ordinary Americans.

Warren’s student loan bill blocked by Senate Republicans

Is the “crush” of student loan debt here to stay?

Ben Lane, June 11, 2014 1:06PMdebt_wouldnt_die

Despite receiving full-throated support from President Barack Obama, a bill designed to ease the burden of student loan debt could not garner enough support in the Senate and will not move forward in its current form.

The bill, authored by Senator Elizabeth Warren, D-Mass., would have allowed borrowers to refinance their student loan debt using today’s lower interest rates. …

The bill would have been paid for by, in the words of President Obama, “closing loopholes that allow some millionaires to pay a lower tax rate than the middle class.”

That legislative measure, sometimes referred to as the Buffett Rule, has long been a Democratic rallying cry and one that Republicans have long pushed back on.

On Monday, President Obama said that his administration fully supported the bill. The proclamation came as part of a speech that saw President Obama announce additional measures to ease the “crush” of student loan debt.

Personally, I don’t think student loan debt should be forgiven — it should never have been allowed to pile up in the first place. If legislators start forgiving student loan debt, no college student anywhere will ever be judicious about student loan debt again.

I worked when I went to college, and I tried to keep my student loan debt to a minimum. If I had believed my debts would be forgiven, I would have sought ways to maximize my student loan debt, not minimize it.

That being said, legislators failed to reign in the excesses in student loan lending, even now. The burdensome mountain of student loan debt lives on to prevent recent graduates from forming families and buying homes; further, all that debt service prevents them from spending more on goods and services to stimulate the broader economy.

student_loan_debt

“Generation Renter”

Millennials Delaying Milestone Life Events, Such As Homeownership, to Pursue Different Goals

Sam Khater- June 09, 2014deeply_in_debt

Delaying marriage, taking the time for educational achievement, and lower income levels for those who have not gone to college has slowed the rate of household formation for Millennials. In 2012, 36 percent of Millennials were living with their parents, the highest share in at least four decades according to the Pew Research Center. Since Millennials are becoming more educated and delaying household formation, their labor and balance sheet profiles are on lower trajectories relative to previous generations. According to new Federal Reserve research, Millennials are less likely to be in the labor force and have half the net worth of Generation X and Baby Boomers at the same age, a massive difference[3]. That is due to the associated debt with increased education, as well as lower incomes for those who didn’t go to college. Additionally, educational debt is associated with increased non-student debt because students, with limited or no income while studying, finance living expenses in addition to educational expenses. The share of households under 40 with student debt was 37 percent in 2013, the highest share on record[4].

While Millennials were severely impacted by the Great Recession, they were on a fundamentally different trajectory than their predecessors even before the recession, particularly as it pertains to education, debt and income. The cascading impact of Millennials’ changing economic impact is hampering their ability to achieve homeownership, which puts an increased emphasis on entry level affordable homeownership, such as condominiums. Unlike their predecessors, only a minority of Millennials are homeowners, so perhaps a more apt nickname for this cohort is Generation Renter, or Generation R.

I suppose we can find a bright side in this problem. We’ve built and renovated a lot of properties to create more rentals, and parent’s basements all over America are getting more use than ever before.

If we want to put Americans back to work to build a prosperous tomorrow, we need less debt, not more.

debt_production

[listing mls=”OC14121965″]