The right-to-rent proposal floating around Washington would crash house prices as loan owners everywhere strategically default to lower their monthly payments and stay in their houses.
Irvine Home Address … 40 DESERT WILLOW Irvine, CA 92606
Resale Home Price …… $995,000
Man, living at home is such a drag
Now your mom threw away your best porno mag (Bust it!)
You gotta fight for your right to party
Beastie Boys — (You Gotta) Fight Your Right (To Party)
The idea of a right to rent has been floated by Dean Baker of the Center for Economic and Policy Research. His proposal is to give every loan owner the right to stay on in their foreclosure for five years paying market rents.
I first covered this issue in The Right to Rent Would Flatten the California Housing Market. I noted the following:
Dean Baker of the CEPR was one of the early public voices who called the housing bubble. He accurately noted the disparity between rent and payments and concluded housing prices were not sustainable. Like me, he was a renter looking to buy as prices were ramping up, and like me, he noted that since it didn't make sense for him personally to buy, it didn't make sense for anyone else either. Being an economist at an influential think tank, he was in a position to research and write about the issue and be heard.
I really like Mr. Baker's proposal, but I have been afraid to write about it because I don't think lawmakers fully understand what passing his legislation would do to the housing market. I would very much like to see it become law, but if it does, every inflated housing market in the country would crash very hard as loan owners accelerate their defaults.
My position on this issue hasn't changed. I would like to see it be made a policy because of the impact it would have on the housing market and the economy in the long term. Short term, it will crush the banks as the remaining inflated markets crash under waves of strategic default.
Commentary: Right-to-Rent Would Ease Foreclosure Mess
By Dean Baker — April 11, 2011, 1:14 PM ET
Developments asked Dean Baker, co-director of the left-leaning Center for Economic and Policy Research in Washington, D.C., to weigh in on the housing market. Mr. Baker first proposed the right-to-rent idea in 2007.
While the rate of foreclosures may have finally peaked, it is not going to come down quickly. We are virtually certain to see at least a million foreclosures in 2011 and comparable numbers in 2012 and 2013. Many more homeowners will lose their homes through distressed sales.
This is a crisis for both the homeowners themselves and also for the communities where these foreclosures are concentrated. There is considerable research showing that foreclosed properties are a blight on neighborhoods, bringing down property values and creating eyesores and safety risks. For these reasons, there is a strong argument for taking measures to reduce the pace of foreclosures.
I think some of those arguments are spurious. In my opinion, foreclosure is the best form of principal reduction, and foreclosures are essential to the economic recovery. But assuming Dean Baker is right and
I am wrong, the impact of his proposal on the housing market would be catastrophic for lenders.
However, few would argue for yet another round of the federal Home Affordable Modification Program. HAMP has proven bureaucratic and ineffective. Only a small share of threatened homeowners have received permanent modifications and a large portion of this select group is expected to re-default.
I’ve said it before, and I’ll say it again: There is a simple alternative that involves no government money and no new bureaucracy. We could temporarily change the rules on foreclosure to allow homeowners the right to stay in their home as renters for a substantial period of time (e.g., 5 years) following a foreclosure.
During this period, they would pay the market rent as determined by an independent appraiser. They would have the same rights and responsibilities as other tenants, with the exception that they could not be evicted without cause. The lender would own the property and would be free to sell it, although the former homeowner would still have the right to remain as a tenant even if the home is sold.
If every loan owner in America had the right to stay in their current house and pay only market rents rather than an inflated house payment, then every underwater loan owner with a loan payment exceeding rent would have less of a dis-incentive to strategically default. The only thing stopping most loan owners from defaulting is the fact that they have to leave their houses when they do. If you take away that punishment, many more people will strategically default.
This policy accomplishes several important goals. First and foremost it provides housing security for homeowners who got caught up in the middle of the bubble. These people can be blamed for having made a mistake by buying homes at bubble-inflated prices. But this mistake is small compared with the mistakes made by the banks that made hundreds of billions of dollars of bad and often deceptive loans.
I agree with his assessment that banks made the bigger mistake and lenders are more culpable than borrowers when it comes to lending issues. However, borrowers can't be given a free pass if our system of lending is to function.
We were willing to give these banks trillions of dollars of loans at below market rates. Allowing foreclosed homeowners to stay in their homes as renters seems a rather small concession in comparison. This right-to-rent provision can also be narrowly structured so that it only applies to owner-occupied homes of less than the median value that were bought during the bubble years. This will ensure that it is not exploited by wealthy homeowners or investors.
I like that provision, but those just above the median won't feel quite as good about it. I am delighted that his proposal would not help HELOC abusers stay in their homes.
By changing the balance of power between lenders and homeowners, the right to rent provision would give lenders more incentive to voluntarily arrange modifications that allow homeowners to stay in their house as owners. This would be the best possible outcome.
The fact that foreclosed homes remain occupied will prevent the sort of neighborhood blight that has devastated many communities across the country. Tenants with security in their home will have an incentive to keep the property looking respectable.
I don't think that is true. Holdover owner tenants will not spend anything to maintain the property during the period of bank ownership. In fact, the tenant demands on the landlord for routine maintenance will undoubtedly get out of control. Loan owners will quickly realize they can have the benefits of renting (owner pays for maintenance) at a lower cost, and they will likely be given a chance to repurchase again in the future. Does anyone really think strategic default would not become the norm?
Finally, the right to rent could free up money that is currently going to mortgage payments on homes where owners never accrue any equity. In some of the former bubble markets the difference between mortgage payments on a house purchased near the peak of the bubble and the market rent can be more than $1,000 a month. The money saved by former homeowners is money they will spend in the communities where they live.
I argued the same in foreclosures are essential to the economic recovery. Californian's gain no long term benefit from making oversized mortgage payments. The money they currently send to a lender is a drain on the local economy. Only fresh borrowing and a return to Ponzi living can make the old system work.
So there you have it: A simple policy that requires no taxpayer dollars and no new bureaucracy.
I love his idea, but realistically, it will never happen because the resulting strategic default would make the foreclosure problem much worse for the banks. It would be a great thing for society because every inflated market would immediately crash down to cashflow levels and stay there. Lenders would be forced to limit house payments to comparable rents because that is all they can recover if the borrower defaults. The days of payments exceeding comparable rents would be over. I think that would be great.
Would the right-to-rent replace the choice-to-squat?
I first profiled today's featured property back in August of 2009 when it was a short sale advertised at $750,000. Even then I noted they had been squatting for a while. 
Foreclosure Record
Recording Date: 08/25/2008
Document Type: Notice of Default
Not much has changed since then.
Foreclosure Record
Recording Date: 03/02/2010
Document Type: Notice of Sale
These owners have been squatting in this million dollar home for almost three years. Should we let them stay on for another 5 years at market rents?
I would rather see them move out so a family who can afford the property can move in. Just because a lander have them a dodgy loan and allowed them to occupy a property they cannot afford does not mean we should go to heroic efforts to keep them in a property while displacing a family who could legitimately afford it.
Irvine House Address … 40 DESERT WILLOW Irvine, CA 92606 
Resale House Price …… $995,000
House Purchase Price … $1,306,500
House Purchase Date …. 2/9/2006
Net Gain (Loss) ………. ($371,200)
Percent Change ………. -28.4%
Annual Appreciation … -5.2%
Cost of House Ownership
————————————————-
$995,000 ………. Asking Price
$199,000 ………. 20% Down Conventional
4.87% …………… Mortgage Interest Rate
$796,000 ………. 30-Year Mortgage
$180,432 ………. Income Requirement
$4,210 ………. Monthly Mortgage Payment
$862 ………. Property Tax (@1.04%)
$542 ………. Special Taxes and Levies (Mello Roos)
$207 ………. Homeowners Insurance (@ 0.25%)
$0 ………. Private Mortgage Insurance
$160 ………. Homeowners Association Fees
============================================ 
$5,981 ………. Monthly Cash Outlays
-$1023 ………. Tax Savings (% of Interest and Property Tax)
-$980 ………. Equity Hidden in Payment (Amortization)
$373 ………. Lost Income to Down Payment (net of taxes)
$144 ………. Maintenance and Replacement Reserves
============================================
$4,495 ………. Monthly Cost of Ownership
Cash Acquisition Demands
——————————————————————————
$9,950 ………. Furnishing and Move In @1%
$9,950 ………. Closing Costs @1%
$7,960 ………… Interest Points @1% of Loan
$199,000 ………. Down Payment
============================================
$226,860 ………. Total Cash Costs
$68,900 ………… Emergency Cash Reserves
============================================
$295,760 ………. Total Savings Needed
Property Details for 40 DESERT WILLOW Irvine, CA 92606
——————————————————————————
Beds: 5
Baths: 4
Sq. Ft.: 3168
$314/SF
Property Type: Residential, Single Family
Style: Two Level, Modern
View: City Lights
Year Built: 2006
Community: Columbus Grove
County: Orange
MLS#: P776945
Source: SoCalMLS
Status: Active
——————————————————————————
Short Sale!!!! This is a lovely home, well kept, great curb appeal, Big kitchen with island, large master suit with jacuzzi tub and seperate shower, One Bedroom and one Bathroom Downstairs, Hardwood like floors Downstairs, Carpet upstairs, Beautiful Back Yard for entertainment or Family gathering. Laundry room with sink, large community park and association pool. Original Oweners Put over $150,000 in upgrades!! Too much to mention, please bring your fussy Buyers they will absolutely fall in love with this home.
I entertain the idea of principal reductions, and like Dean Baker’s work, but you clearly explain why the right-to-rent is not a good idea. We have a general idea that foreclosures are impossible to deal with for both the community and the former owners. My in-laws street has a 20% foreclosure rate with probably a couple more in the pipe. It has not gone down in quality. What I would have seen as at least as big a problem would have been investors buying homes and letting them sit.
The problem with foreclosures is that banks are not processing them appropriately. They are dragging their feet in some cases, and going to fast and sloppy in others. They don’t put a lot into rehab and marketing. They let them sit empty and unmaintained for long periods.
Is the idea that you’d have to move really keeping people from strategic default? Would the ability to live a couple years rent-free in a home really not be worth the inconvenience of moving? Moving costs are what, 1 or 2 monthly payments? This tenant could end up with 3 years of non-payment, which is about $270k in saved payments. For anyone with a mortgage, that’s a lot of money. If you’re willing to strategic default to get that, having to move won’t deter you.
The people who are far underwater will strategically default anyway, but by allowing poeple to stay in their homes when they otherwise couldn’t, those on the margins will strategically default. IMO, it lowers the bar on how far underwater an owner has to be, or more importantly, it lowers the bar on the needed monthly payment savings to make the leap.
For instance, if a loan owner is paying $500 a month more in payments than in rent, he might ride it out, but at $1000 a month, he might default. Wherever that tipping point is for each owner will go down if they have the option to stay in their house.
“…For instance, if a loan owner is paying $500 a month more in payments than in rent, he might ride it out, but at $1000 a month, he might default…”
Also, if that ownership premium is small relative to the home-debtor’s income, I think they’re much more likely to keep making the payments and just play wait-&-see. They can always default later – the borrower holds the option.
Perspective,
If you are interested in taking on a small writing project, I would enjoy seeing a guest post from you on why you don’t strategically default.
We could title it, “Underwater but choosing to pay the mortgage” or “Why one Irvine homeowner will not strategically default” or whatever you want.
Your understanding of these issues is masterful, and your attorney’s mind can parse the nuances of your financial and emotional reasons for making your decision. It’s a side of the situation I have not explored on the blog.
You know I like to explore the relationship between micro decisions and macro economic events. Your decision to keep paying — and what it would take to change your mind — is right for you, and the reasons it’s right is influenced by government policy toward housing. What you think and do has impact on the market because there are many others in your circumstances.
Are you interested?
larry@idealhomebrokers.com
Let’s say that someone is paying $3k/mo to ‘own’ while next door, the home is rented for $2k/mo. Homeowner is >25% underwater. If they defaulted and went to foreclosure, they’d probably get 12 months, which is either $24k or $36k saved (if you look at the cost to ‘own’ or rent). $24k goes a long way towards moving costs.
The benefit of not having to move is not as strong as the many months of rent-free housing.
The bigger cause of strategic default is lenders dragging their feet with foreclosures. Take the time down to 6 months, or start going after people for losses would do a lot more to stop strategic default.
There are other similar options floated – resetting mortgage balances (the proposal is at the end of the article).
Right-to-rent and principal reductions are both anti-free-market attempts to skew the market, and will only reward bad lending and careless borrowing at the expense of those of us who did not contribute to this debacle.
Let the market work. If we had let the market work instead of deliberately driving bad lending and house inflation by means of easy money and government mortgage guarantees during the housing rampage, it would never have happened and prices would still be back at Y2K levels.
Ha, letting the market work would way too simple for the modern politician. They have to “solve” the RE problem and fix/save the economy before next year’s elections or they’ll have nothing to tout in their glossy campaign mailings. Letting the market work would require a degree of patience they don’t possess (and sadly, many/most Americans seem to lack this quality as well). However, I completely agree with LL here.
Wouldn’t “right to rent” turn mortgages into highly-leveraged, risk free options on the housing market? There needs to be an incentive to not buy when houses are too expensive, otherwise every housing market uptick will turn into a bubble.
The right to rent would certainly make mortgages more desirable to borrowers. It would be up to the lenders if they wanted to inflate another housing bubble. IMO, any lender who knows the borrower could default and make a rental payment for 5 years is being stupid if they make a loan that requires a payment larger than rent. Some would push the envelope at take the risk of a lowered cashflow during the squatting phase, but I doubt lenders would let payments get to be double market rents like they did during the housing bubble.
They maybe renting out 40 Desert Willow and not squatting.
Either way, it goes back to the bank or gets picked up by 3rd party at auction.
Its neighbors 39 & 32 Desert Willow went that route.
You should have AZDave come up with another JPG for “Hardwood like”.
I like the floor plan for this particular home… no a true 3CGW… but closer than anything TIC is bringing out now.
Sorry, but what is a 3CGW?
Heh… a typo.
Should be 3CWG… 3-car wide garage.
ohhhhh right…. those are hard to find!
Yeah, along with IHO’s totally 80s Members Only jacket
C’mon… Irvine had 3CWGs in the 90s too… but alas I didn’t wear Hilfiger.
Let it go
All new product is directed and catered to FCBs now
You must have missed the memo
You should have AZDave come up with another JPG for “Hardwood like”
Oh there is no hardwood “like” anymore. It’s all hardwood “love” now.
I see the logic here –> right-to-rent will increase the rates of strategic default and foreclosure, as owners will be given the right to live in their own home, out of the crushing debt burden, likely long enough for their credit to repair itself enough that they may someday buy again.
What I don’t get is the logic that it will cause a crush on house prices. And the reason I don’t see that is that I fail to see the logic that this will increase inventory. With right-to-rent, you may have a lot more houses coming up for foreclosure auction, but ONLY to be purchased by cashflow investors or falling right back into the hands of the banks.
Right now a lot of renting potential buyers are waiting on the sidelines to buy their home. Ensuring right-to-rent will keep them from buying any of these properties.
Essentially this is a way to allow foreclosures to proceed while tying up shadow inventory so it doesn’t find its way to the “real” market.
If these people don’t leave their homes, there’s basically no additional inventory coming on line, so I fail to see how prices would crater.
Can you explain?
Agreed.
And if they are delinquent on their mortgage, wouldn’t they also do the same to their rent.
Would it be any easier/faster to vacate these homes now they are renters as opposed to squatters?
Why wouldn’t they pay rent? If they get evicted, they need to live somewhere, and if they’re paying true market rent, in a house they already know and have furnished, why not pay the rent? Squatting is cheap, but you constantly have the knowledge that someday you’ll be evicted and will have to pay rent. This just gets you to that point without forcing you to move.
It’s easy to vacate a squatter — foreclose on them and evict. The banks’ dawdling on foreclosures, chronicled daily here at IHB, show that it is a question of will, not a question of capability.
And the proposal is that they can’t be evicted from the house within 5 years without cause. I would assume that failure to pay rent would be clearly a legally-justified cause for eviction.
You said it, a question of will. The assumption is based on if a bank is slow to foreclose on squatters, they will also be slow to act on delinquent renters.
I’m sure there will be legalese to prevent that, but then again… there is supposed to be legalese to prevent squatting.
Seems like more can-kicking can occur.
True, more can-kicking *can* occur.
But why would it? At this point the bank is either contracting out to a property-management company or has hired such a division within. Why would they avoid kicking out the renter *if it’s rented at market rates*? They can always get another renter if they don’t want to put the house on the market for sale.
The pain for a bank is foreclosing and being forced to realize the loss on their balance sheet. That pain is a lot of the reason I believe that foreclosures are occurring so slowly. Once that pain is complete, though, why would they hesitate to get rid of a renter who isn’t paying if they can get another one in the house who will.
The reason prices would crash is not due to supply problems. Hopefully, there would be less foreclosure inventory as squatting would be formalized and rent would be charged. Banks could then dole out houses at their leisure when demand returned. Of course, in the meantime, lenders will own many houses.
The reason I believe the right to rent would hurt prices, particularly in inflated markets is because lenders would have a reluctance to loan under terms where the payment exceeded rent. The effect of this lender reluctance is that loan balances will decline effectively removing the demand currently keeping prices up in markets like Orange County. Lowered loan balances in concert with the distressed properties that would still be on the market will serve to push prices lower.
The right to rent would be helpful in markets like Las Vegas because it would help manage inventory levels. However, it would also complete the cycle of strategic default in Las Vegas, and lenders would own most of the property in town. Lenders would become major landlords in towns like Las Vegas as everyone strategically defaulted as stayed on as renters for 5 years. I doubt BofA wants to own 100,000 houses in Las Vegas.
Okay, I see the logic there now… Thanks.
I’m not sure lender reluctance will be a short-term change, though, as lenders understand that a buyer who is not overwhelmingly underwater isn’t going to default on their loan just to get cheap rent. And keeping this foreclosure inventory off the market would potentially stabilize or even bolster home values — at least as judged by the few comparable sales that actually close.
All of these fights, whether principal reduction or right-to-rent, are designed to keep homes off the market. Maybe after a few years of intervention, rental parity will “catch up” to the stagnant house market, rather than the other way around.
“Maybe after a few years of intervention, rental parity will “catch up” to the stagnant house market, rather than the other way around.”
That is certainly what lenders are hoping for. And to some degree, that will certainly happen. It’s only a matter of how long it takes and how much prices creep downward while fundamentals catch up.
>Right now a lot of renting potential buyers are waiting on the sidelines to buy their home< Not for long. Those lump sum down payments are being eroded by inflation. In 2 years a quarter mil will get you 50.
House prices are not inflating, except in Palo Alto.
IR: It would seem that the “Right to Rent” would turn completly non-performing assets (Squatters Loans) into partially performing assets, in the form of market rents. It might work if banks were more diligent in the forclosure process, but it would require motivating FBs who currently pay nothing to pay something. I guess some morale hazard is better than a s***load of morale hazard.
SB
IrvineRenter: “to give every loan owner the right to stay on in their foreclosure for five years paying market rents”
The new law should not be applied to any contract signed before the effective date of this law.
IMHO, government is prohibited from passing ex post facto laws by constitution.
Inflation coming in hot… mortgage rates on the rise – from here to eternity. Just imagine what will happen when the world’s economies actually start to recover…or maybe you believe that the BRIC won’t return to growth at some point and that the US will stop debasing the currency and balance our budget. Both soooo unlikely. So higher rates coming soon.
Does anyone realise that we have a zero fed funds rate and are in the process of printing and buying 600B in treasuries to keep borrowing low???
Rates will easily be 2-5 points higher on a 30 year fixed in the next decade or two…
Yikes…. hope you can stay and pay for 10 years min to only loose a little!
Housing has serious ‘head winds’ especially in still overinflated markets based on history.
I go back to IR’s big charts. Low end at rental parity. Middle with 10-15% more to go and all things $1M and above …pobre si!
Hope those FCBs come in quantity.
BD
I rent for $2700/month for a very nice place in HB. To own the same place it would cost me $3600/month in mortgage and another $450/month in HOA.
What idiot would buy when the gap is at historical highs like this?? And don’t say tax savings. If you can afford a nice house out of income with a 20% down you make a good living. And AMT tax takes it all… there are no savings if you make any thing close to what it costs to pay those payments with a 31% DTI.
The gap between rent and ownership gap will revert. There will be a reversal to mean. It ALWAYS happens ALL the time…
So either rents on 1400 square feet condos, houses or apartments are going to 3500/month or prices are coming down. Take your bet…
The best that prices can do is go sideways for decades… and BTW, rates matter big time!
BD
IR…can you put up a chart that shows interest rates on a 30 year fixed and the prices of housing? It would be nice to include when the “financial engineering” and other products flooded the market with an arrow or something.
Prices have risen principally because you can borrow more at a smaller rate. If this reverses prices will fall b/c nearly everyone is paying maximally what they can afford on a monthly basis. Of course you throw in intrest only and no document loans and you get a bubble on top of a bubble. 2004 was the end of the first bubble. Then you throw in all of the “fincancial engineering” and you get a surge higher!
We will most defintely go back to 2002-3 prices before this is done.
If rates rise for 10-20-30 years just as they have fallen I would think that prices will fall. That is, unless you believe that most people even in Irvine don’t borrow money to pay for things they can’t afford out of savings or cashflow.
Thanks,
BD
What the banks are doing in some cases is allowing owners to squat because of their fear of destruction of the property in the few homes that I have tried to buy short sale. In these cases the owners told us they would just go into bankruptcy which would give them at least another year of squatting. As for keeping up the property that is a farce doing what looks good for the bank inspector who stops by for an occasional look see.
Why would these owners ever rent their home when they can keep living in it for free on top of the bank actually paying the taxes on it? After I learned all this on a house in Laguna I knew I would never be in this home, nor will anyone else.
Another problem with rent to live in for less is taxes. How would you distinguish the tax base and why should we reduce it even further? Everyone getting a reduction would hurt the overall economy greatly and you can’t do for one and not expect the rest of the herd mentality to all follow.