Category Archives: Library

How large is the Irvine land premium?

Irvine is a premium Orange County Community, but how large is the premium for the land? Today we will take a look.

Irvine Home Address … 14132 MOORE Ct Irvine, CA 92606

Resale Home Price …… $559,900

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With The Man Who Sold The World

Nirvana — The Man Who Sold The World

Has any man sold more homes than Donald Bren? I don't know, but I doubt it. He and his Irvine Company are planning to sell a few more. Any takers?

Irvine Co.: 1,350 homes sold, more coming

April 8th, 2011, 3:00 pm — Jon Lansner

The Irvine Co. — fresh from a remarkable 2010 where their Irvine villages were a top-selling new-home project in America — will officially launch four more North Irvine projects Saturday.

The company has sold 1,350 homes in North Irvine communities since January 2010 —

Perhaps the Irvine Company is not used to having fact checkers follow them around, but the sales numbers they throw out are not accurate. And I strongly suspect the sales numbers are intentionally exaggerated to create false urgency to sell more homes.

From January 2010 to February 2011, they closed on 642 home sales. The numbers they are reporting are double what really sold. Perhaps if I were dependent upon the Irvine Company for advertising revenue, perhaps I would let transparent lies pass by, but since I don't fear them pulling ad revenue from me, I will provide accurate numbers.

and officially launches 12 model homes in four neighborhoods (DETAILS HERE!) in the Stonegate neighborhood. All told, the four new projects — click on sketches above for larger images and details — consist of 486 homes from one-bedroom, 1,129-square-foot flats to 2,974-square-foot, 5-bedroom detached homes. Prices? From the mid-$300,000s to high-$700,000-plus.

Dan Young, Irvine Co.’s homebuilding chief, continues to credit detailed market research for the company’s success — a distinct rarity in a homebuilding world that elsewhere runs near historic lows.

He's right in pointing out that the Irvine Company is leading the way out of the home building recession. They restricted sales so much in 2008 and 2009, they didn't overbuild and saturate the market with product they couldn't move. The activity in 2010 stands in stark contrast to the rest of the industry.

“It’s got to be about the house,” he says of the projects continued focus, which he admits sounds simplistic — but it is not.

The Irvine Co.’s ongoing research found that the key buying group are young professionals who are picky — “they grew up in great homes” — and want something different than their parents’ house — “their expectations are higher.”

The long-vanished real estate boom, in Young’s eyes, made house selling so easy that bad homebuilding habits were born so that homes were “engineered not designed,” and that “took a lot of the romance out of the product.”

Having worked in architectural firms as a land planner for a number of years, I can attest to what Mr. Young is saying. When architects are busy, they are more concerned with putting out drawings and getting paid than they are about the nuances of the product. Plus, overly cost conscious builders end up stripping down the design to it's simplest and easiest to build form.

The new research helped the Irvine Co. plan homes that trade housing traditions — like a formal dining area– for large, kitchen-linked “great room” with a built-in “home management” area plus a covered, outdoor “California room” dining area. Buyer feedback has also led to further innovations, such as building bigger and more functional kitchen islands that are sculpted “more like a piece of furniture.”

It didn’t hurt the homebuilding endeavor that the Irvine Co. was blessed with a well-financed owner, billionaire Don Bren, who was able to put his own cash at risk on new homes when other builders still scramble for construction financing. ”We were in a position, financially, to take the large risk,” adds Young, who notes that the homebuilding effort has met or exceeded every financial plan including, “a good profit.”

The should be able to make a good profit considering they likely have less than $100/SF into the house itself, and the land basis is near zero.

The Irvine land premium

When the Irvine Company developed the Ranch, through good land planning and a commitment to quality, they have managed to create an enormous premium for Irvine compared to other inland Orange County communities. Only the beach communities carry a higher premium on the land.

I created the chart above by taking the median home prices and dividing it by the median lot size. Similar to a $/SF for houses, this reflects the value of the underlying land.

Irvine has always had a price premium, but when you factor in the fact that lots are also 20% to 30% smaller than surrounding communities, the $/SF of lot value is extraordinarily high. Creating this premium from nothing is the real genius and accomplishment of Donald Bren and the Irvine Company.

If you compared Irvine to the remainder of Orange County, how large is the Irvine land premium? How much more do buyers in Irvine pay on a per-square-foot basis than the Orange County median? Quite a bit.

From 1988 to 1994, the premium hovered around 50%, but in 1995 it began to climb. From 1995 to 2009, the Irvine premium hovered between 50% and 80%. When land values in the subprime areas crashed and took down the Orange County median, the Irvine land premium rose to unprecedented levels.

IMO, the elevated Irvine land premium reflects the fact that prices have not fallen in Irvine compared to surrounding communities. Perhaps Irvine has taken another step up from the crowd and the Irvine premium will remain above 80% permanently.

I doubt it.

It seems far more likely to me that resale asking prices in Irvine will continue to fall. Perhaps the Irvine Company will be able to hold pricing on its new product, but they may find sales goals elusive as the substitution effect drags down the high end and brings the Irvine land premium back into its historic stable range.

That check won't be very big

Sometimes when I comb through the property records, I feel like I am spinning the wheel of fortune. Some of these owners didn't spend their equity, so they leave the closing table with big equity checks. Most have some degree of Ponzi borrowing. My observation is that well over half have increased their mortgage. Some borrow a lot and some borrow a little, but most borrow something.

The owner of today's featured property borrowed enough to put a major dent in their closing check. At least they won't be a short sale.

Todays featured property was purchased on 7/22/1994 for $235,000. The owners used a $188,000 first mortgage and a $47,000 down payment. At first they behaved well, and when they first refinanced in 1997, they paid down the first mortgage to $186,000. However, on 12/10/2001, they opened a $50,000 HELOC and went Ponzi.

On 10/3/2002 they refinanced with a $232,500 first mortgage and got another $25,000 HELOC. They had gone Ponzi, and there was no looking back.

On 8/24/2004 they obtained another $75,000 HELOC, and they increased it to $100,000 on 4/18/2005.

On 7/26/2005 they refinanced with a $350,000 first mortgage, and finally on 4/24/2008 they obtained their final $100,000 HELOC. There is no way to be sure if they spent it. Either way, they already nearly doubled their initial mortgage and Ponzi borrowed at least $165,000 — money that won't be in their closing check.

Irvine House Address … 14132 MOORE Ct Irvine, CA 92606

Resale House Price …… $559,900

House Purchase Price … $235,000

House Purchase Date …. 7/22/1994

Net Gain (Loss) ………. $291,306

Percent Change ………. 124.0%

Annual Appreciation … 5.2%

Cost of House Ownership

————————————————-

$559,900 ………. Asking Price

$111,980 ………. 20% Down Conventional

4.84% …………… Mortgage Interest Rate

$447,920 ………. 30-Year Mortgage

$113,830 ………. Income Requirement

$2,361 ………. Monthly Mortgage Payment

$485 ………. Property Tax (@1.04%)

$0 ………. Special Taxes and Levies (Mello Roos)

$117 ………. Homeowners Insurance (@ 0.25%)

$52 ………. Homeowners Association Fees

============================================

$3,015 ………. Monthly Cash Outlays

-$401 ………. Tax Savings (% of Interest and Property Tax)

-$554 ………. Equity Hidden in Payment (Amortization)

$208 ………. Lost Income to Down Payment (net of taxes)

$70 ………. Maintenance and Replacement Reserves

============================================

$2,337 ………. Monthly Cost of Ownership

Cash Acquisition Demands

——————————————————————————

$5,599 ………. Furnishing and Move In @1%

$5,599 ………. Closing Costs @1%

$4,479 ………… Interest Points @1% of Loan

$111,980 ………. Down Payment

============================================

$127,657 ………. Total Cash Costs

$35,800 ………… Emergency Cash Reserves

============================================

$163,457 ………. Total Savings Needed

Property Details for 14132 MOORE Ct Irvine, CA 92606

——————————————————————————

Beds: 4

Baths: 2

Sq. Ft.: 1910

$293/SF

Property Type: Residential, Single Family

Style: One Level, Contemporary

Year Built: 1975

Community: 0

County: Orange

MLS#: S653562

Source: SoCalMLS

Status: Active

On Redfin: 4 days

——————————————————————————

Immaculately maintained open plan single story detached home in the Colony. STANDARD SALE! Master and 2 bedrooms on ground floor level, permitted addition includes loft currently used as 4th bedroom. Large family room and bay window views of a private, tree-lined, greenbelt. Peaceful cul de sac street. Adjacent to all shopping and the 5 freeway on/off-ramps. Many upgrades including: quiet, dual pane custom Anderson windows, 6 panel doors, Travertine 16' tiles and carpeting, landscaped bricked yard with built in grill. Roof is 2 yrs new Eaglelite Concrete tile, All appliances-insured and inspected plus replaced AC, Heat, Vents about 6 years ago. Annual Termite inspections. The Colony has the lowest HOA fees in Irvine-$52.00/month-NO Mello Roos, includes free clubhouse use w/ bbqs, pool/lifeguard/swim team, basketball, tennis, volleyball, serene tree-lined park with large tot-lot playground. Many community events. 4 Blocks-Irvine HS; 6 Blocks-College Pk. Elementary; 10 Blocks-Venado Middle.

Reverse mortgages are causing widowed seniors to lose their homes

Underwater reverse mortgages in concert with a change in government policy is causing widowed seniors to lose their homes.

Irvine Home Address … 72 NAVARRE Irvine, CA 92612

Resale Home Price …… $390,000

Don't bet your future,

on one roll of the dice

Better remember,

lightning never strikes twice

Huey Lewis and the News — Back in Time

I have made mistakes in my life that made me want to go back in time and undo them. Sometimes you can, but sometiimes you can't go back and reverse the damage. Taking on a reverse mortgage is one mistake that is very difficult to undo.

I don't like reverse mortgages. I don't like many forms of debt, but reverse mortgages are one of the worst forms out there.

According to the Department of Housing and Urban Development:

A reverse mortgage is a special type of home loan that lets you convert a portion of the equity in your home into cash. The equity that built up over years of home mortgage payments can be paid to you. But unlike a traditional home equity loan or second mortgage, no repayment is required until the borrower(s) no longer use the home as their principal residence or fail to meet the obligations of the mortgage.

If you don't have to make any payments, it shouldn't be too difficult to meet the obligations of the mortgage. Also from the HUD website:

What's the difference between a reverse mortgage and a bank home equity loan?

With a traditional second mortgage, or a home equity line of credit, you must have sufficient income versus debt ratio to qualify for the loan, and you are required to make monthly mortgage payments. The reverse mortgage is different in that it pays you, and is available regardless of your current income. The amount you can borrow depends on your age, the current interest rate, and the appraised value of your home, sales price or FHA's mortgage limits, whichever is less. Generally, the more valuable your home is, the older you are, the lower the interest, the more you may borrow.

Reverse mortgages provide seniors with plenty of equity and limited income the ability to tap their equity to meet the needs of daily life. Basically, they didn't want grandmothers to eat dog food if they had a lifetime of filet mignon tied up in home equity.

As you might imagine, loaning seniors money when they have no ability to repay has potential for abuse and predatory lending. Fortunately, the market is heavily regulated by HUD.

Good News for Spouses of Reverse Mortgage Holders

By RON LIEBER — April 7, 2011, 6:28 pm

In the face of a lawsuit from the AARP Foundation, the Department of Housing and Urban Development has backed off an apparent policy change that was putting some widows and widowers on the brink of foreclosure.

The dust-up involves reverse mortgages, financial products that allow older Americans with a decent amount of home equity to tap some of that equity if they are at least 62 years old. Unlike a home equity loan, where you have to pay the money back, with a reverse mortgage the bank pays you, say in a lump sum or in monthly payments. Once you no longer live in the home, you or your executor (if you’re dead) sells it and pays the bank back.

The foundation and Mehri & Skalet, a law firm, sued HUD in the wake of a policy letter in 2008 that seemed to state that widows or widowers who were not listed on a spouse’s reverse mortgage would have to repay the full amount of the deceased spouse’s mortgage. They’d have to do so even if the home was worth less than the outstanding loan.

Not long after, some surviving spouses found themselves unable to pay off the loans or get a new mortgage for the outstanding balance on the old reverse mortgage. As a result, they ended up in foreclosure proceedings. The foundation had sued on behalf of three of them.

This really is outrageous that HUD would foreclose on an underwater widow. Whoever made this policy didn't think it all the way through.

In a letter it released this week, HUD rescinded the 2008 letter. And while this week’s letter didn’t say so specifically, Jean Constantine-Davis, a senior attorney for AARP Foundation Litigation, reports that the lenders will now halt foreclosure proceedings against its three plaintiffs for the time being. A HUD spokesman did not return a call seeking comment.

The lawsuit is not over, though. The foundation hopes that a judge will confirm that HUD cannot ever force a widow, widower or heir to pay a reverse mortgage lender more than a home is actually worth, whatever the balance may be on the mortgage.

It also wants to establish surviving spouses’ right to stay in the home if they so choose, even if they weren’t party to the original reverse mortgage. That might mean that the lender is on the hook for the reverse mortgage loan longer than it expected to be. But Ms. Constantine-Davis said she thought that as the guarantor, HUD ought to buy the loans from the lender if this became a problem for the lender.

If that becomes too burdensome, HUD might make new rules that could, say, require that both spouses always be listed on the mortgage, while making some kind of provision for people who get married after one of them has gotten the reverse mortgage loan and wants to add a spouse to the mortgage.

Meanwhile, Ms. Constantine-Davis notes that HUD does not currently require both spouses to undergo counseling when only one of them applies for a reverse mortgage. (One spouse may apply alone because the monthly payout from the lender is usually higher if just the older spouse applies.) Without explicit counseling, spouses who are not on the mortgage may not know that they could end up in a situation like those of the plaintiffs in this case.

One easy fix might be for HUD to make both spouses come for counseling no matter what. Another, as I mentioned in a column a few weeks ago, is much simpler and doesn’t require more regulation: Don’t ever take yourself off the loan, even if it does mean that the payout is lower.

This issue will rightfully embarrass HUD, but it will quickly fade from the headlines.

Why I don't like reverse mortgages

First, needing a reverse mortgage is, IMO, a result of poor financial planning. The goal of good retirement planning should be to acquire assets that provide stable cashflow. Obtaining wealth without the ability to turn it into spendable cash is a big mistake. You can't eat gold or diamonds, and you can't sell part of your house.

The real reason I don't like reverse mortgages is because they are a Ponzi virus seniors take on which invariably leads to distress and the unceremonious fall from entitlement. Do you remember the story of the old widow from that post?

The aging socialite

A reader emailed me about the property that became the post HELOC abuse Hollywood Style. The property was purchased in the early 70s in Hollywood for about $150,000. The property was owned by a frugal couple that paid down their debts. The husband died in the late 90s leaving the wife with a beautiful and historic property with millions in equity.

I can imagine the husband's state-of-mind and heart on his deathbed; he knew he provided well for his family, and although his wife might outlive him for quite some time, he was leaving her comfortably and securely set up for life. The inner peace he felt is something I covet for my own death. So should we all.

If there is an afterlife, and if we have the ability to look in on loved ones after we pass, I hope for this man's spirit that he resisted the temptation and rests in peace. Watching his wife either through foolish choices or bad advice spend the family fortune and be forced to abandon the family home — a home that had millions in equity at the moment of death — watching that from afar with no ability to intervene is more akin to hell than to heaven.

For the widow, she must move out of her stately mansion, destitute and alone with only memories of her life of entitlement and glamor to comfort her, or torture her, as she lives out her life in relative obscurity after her unceremonious fall from entitlement. …

Reverse mortgages have limitations on mortgage equity withdrawal that make them less dangerous than HELOC abuse, but the basic dynamic is the same. Once people start tapping their equity, lenders and their compound interest will consume most or all the equity in the home before the senior dies.

Compound interest grows like cancer. if there are no payments, as there aren't in a reverse mortgage, if given enough time compound interest consume everything. Would you like to spend your retirement worried about running out of money? Let's imagine a few scenarios and see how you feel about this.

I could've used that money

Imagine your late 60's, your children are stable and prosperous, so you decide you are going to blow a little of their inheritance. It's your money, you can do what you want with it; besides, the kids don't need it.

So you take out a reverse mortgage, or worse yet a HELOC, and you spend a little money. You don't go overboard and spend your house like the socialite in the story above, but you do spend enough that you feel worried that you might need it for yourself someday, so you stop using it.

After a while you forget about the loan since you aren't making payments, and you go about your life. Years go by, and your in your mid 80s, and you want or need some elective medical procedures that require you to come out of pocket. You remember the old credit line and you dig for a statement. You open one up and realize the debt grew as fast as your house went up in value. You still have a little equity, but the debt cancer consumed everything you once had. You can't afford your operation and you languish in discomfort in your final days — all because you took on that invisible Ponzi debt early in your retirement.

Riding the equity wave onto the rocks

Or imagine you are of retirement age, and you rationalize how you worked hard all your life so you deserve a few indulgences. You become a Ponzi accustomed to your great new life. This works great as long as you manage your debt in a sophisticated manner, right?

You do well until house prices crash again, your credit lines are cut off, and you lose your home. If your lucky one of your children is welcoming. If they're not, your life really sucks.

Recognizing the cancer debt

At some point, seniors who take on reverse mortgages recognize them for what they are: a malignant financial cancer. These debt tumors grow until they crowd out home equity. There is no cure, and the tumor cannot be removed without selling the house. The only cure is prevention.

It's worse than gambling

Nearly everyone who has gambled in Las Vegas has had a time when they lost more than they wanted to. Depending on how irrational you get, the financial pain can be mild or extreme. But when you lose in Las Vegas, your done. It's over. The loss doesn't get any worse. Your mistake doesn't haunt you for the rest of your life.

Reverse mortgages are different. If you make a mistake and take on a reverse mortgage, the losses of equity due to compound interest go on and on and get bigger and bigger.

It must be horrible to realize you have a financial leak you can't plug without going back to work or selling the house to pay off the debt. Your debt will continue to grow until you die.

Don't get a reverse mortgage

I apologize if i have belabored the point, but I really don't like these loans.

Here's the funny part: after this post comes out, we will probably be contacted by reverse mortgage companies wanting to buy links in our sidebar.

HELOC Abuse grade A

Today, i want to recognize a special mortgage achievement. The owners of today's featured property paid $190,000 back on 6/5/1999. They used a $75,000 first mortgage and a $125,000 down payment. Who does that? Why didn't they borrow $500,000 and buy a big house?

Perhaps they wanted to pay it off.

There is no other mortgage activity since 1999. During the housing bubble while their neighbors were going crazy, these owners paid down their mortgage. Kudos.

Irvine House Address … 72 NAVARRE Irvine, CA 92612

Resale House Price …… $390,000

House Purchase Price … $190,000

House Purchase Date …. 5/6/1999

Net Gain (Loss) ………. $176,600

Percent Change ………. 92.9%

Annual Appreciation … 6.0%

Cost of House Ownership

————————————————-

$390,000 ………. Asking Price

$13,650 ………. 3.5% Down FHA Financing

4.84% …………… Mortgage Interest Rate

$376,350 ………. 30-Year Mortgage

$79,289 ………. Income Requirement

$1,984 ………. Monthly Mortgage Payment

$338 ………. Property Tax (@1.04%)

$125 ………. Special Taxes and Levies (Mello Roos)

$81 ………. Homeowners Insurance (@ 0.25%)

$395 ………. Homeowners Association Fees

============================================

$2,923 ………. Monthly Cash Outlays

-$325 ………. Tax Savings (% of Interest and Property Tax)

-$466 ………. Equity Hidden in Payment (Amortization)

$25 ………. Lost Income to Down Payment (net of taxes)

$49 ………. Maintenance and Replacement Reserves

============================================

$2,206 ………. Monthly Cost of Ownership

Cash Acquisition Demands

——————————————————————————

$3,900 ………. Furnishing and Move In @1%

$3,900 ………. Closing Costs @1%

$3,764 ………… Interest Points @1% of Loan

$13,650 ………. Down Payment

============================================

$25,214 ………. Total Cash Costs

$33,800 ………… Emergency Cash Reserves

============================================

$59,014 ………. Total Savings Needed

Property Details for 72 NAVARRE Irvine, CA 92612

——————————————————————————

Beds: 1

Baths: 2

Sq. Ft.: 1263

$309/SF

Property Type: Residential, Condominium

Style: Two Level, Villa

Year Built: 1978

Community: 0

County: Orange

MLS#: S653803

Source: SoCalMLS

Status: Active

On Redfin: 2 days

——————————————————————————

RARE ON MARKET! Desirable Two Story TOWNHOME, With Direct Access to TWO CAR ATTACHED GARAGE in one of the most PRESTIGIOUS neighborhoods of Irvine. No one above or Below! This Beautiful TURNKEY Home Features a BRIGHT OPEN FLOORPLAN with CATHEDRAL/VAULTED CEILINGS & Lots of NATURAL LIGHT. Completely REMODELED KITCHEN overlooks PRIVATE COURTYARD & BBQ Area. HUGE MASTER BEDROOM SUITE, with His & Hers Closet & Mirrored doors. Plus Large LOFT that could be used as an OFFICE/DEN OR 2ND BEDROOM. PREMIUM CORNER LOCATION with Upgraded Brick Floors on Front Porch, Custom MARBLE FIREPLACE & Foyer, Plantation Shutters, Crown Molding & More! . .. RESORT-LIKE Living at community POOL and SPA. Conveniently located by The Racket Club of Irvine, Rancho San Joaquin Golf Course, William R. Mason Regional Park, John Wayne Airport, Freeway Transportation, Shops, Restaurants, UCI and Highly Acclaimed Irvine AWARD-WINNING Schools. MUST SEE TODAY!!!

What does graffiti say about your community?

Some time ago I was looking at Google Earth images from my hometown. As I took a virtual drive down main street, I noticed the storefront from the old grocery store had been tagged by local high-school students.

Small towns have economic challenges. That's why they are still small towns. This grocery store was one of two locally-owned grocery stores put out of business when a big chain moved in. Today this site is a sand volleyball court for the adjacent bar and bowling alley, currently it's the highest and best use.

Despite the limited financial prowess of towns like this, the residents are happy and exhibit community pride. In other communities, abandoned buildings are often tagged and vandalized by disgruntled locals who rage against the economic depravity. In this community, the teenagers mark their territory with “We love A-F.”

Irvine is a more economically prosperous place than small-town Wisconsin, but it does seem to share the same good feelings about the local quality of life. I spotted the graffiti below in the tunnel below Long Meadow street on the Jeffrey Road entrance to Woodbury. It's probably still there.

Do loan owners feel invested in their communities?

A recent federal reserve report suggests a suggestion between equity and community belonging. Does that mean underwater borrowers are invested less?

Irvine Home Address … 14 FREEDOM Pl Irvine, CA 92602

Resale Home Price …… $779,900

Well I lived on the outskirts of town

In an eight room farmhouse, baby

When my brothers and friends were around

There was always somethin' doin'

Had me a couple of real nice girlfriends

Stopped by to see me every once in a while

When I think back about those days

All I can do is sit and smile

John Mellencamp — Cherry Bomb

My strongest feelings of home still reside in my home town in central Wisconsin. It's not a place I can indulge my entitlements, so I find myself wandering the globe looking for a place I can have the closeness of community and the conveniences of modern society. Irvine is as close as I have come.

For many, if not most, a sense of community starts with buying a home. The ability of Americans to buy homes depends on their ability to obtain mortgages. The future of home lending is being debated in Washington now, and the future prices of homes could be greatly impacted by the outcome.

The Future of Mortgage Lending

Narayana Kocherlakota – President

Federal Reserve Bank of Minneapolis

Minnesota Emerging Markets Homeownership Initiative Workshop

Federal Reserve Bank of Minneapolis

Minneapolis, Minnesota

April 5, 2011

Download PDF

Introduction

… Let’s turn back the clock for a moment to the second half of 2006. At that time, firms and people around the world held a wide array of financial assets that were ultimately backed by U.S. residential land. (Think, for example, of mortgage-backed securities or any asset backed by mortgage-backed securities.) They viewed those assets as being largely free of risk. Investors may have understood that a fall in the value of U.S. land would impose large losses on them. However, they put low odds on such a decline taking place. Rather, they seemed to believe that U.S. land prices would continue to rise at a steady clip.

By the second half of 2007, that belief began to unravel in the face of incoming data. People were beginning to learn the hard way that U.S. land was a risky investment. Now the only question was how risky. The uncertainty about the answer to this question planted the seeds for a global financial panic.

What do I mean by the term “financial panic”? Financial panics are events that blur the line between liquidity and solvency. A firm is solvent if its revenues (in a discounted present value sense) exceed its expenditures. A firm is liquid if it is able to raise enough funds—either by borrowing or by selling assets—to pay its current costs. In a well-functioning financial market, solvent firms are typically liquid, because they are able to borrow against their future profits. In contrast, in a financial panic, lenders feel unable to assess the future profits and/or collateral of borrowers. Borrowing becomes highly constrained, and even highly solvent firms may become illiquid.

The dilemma for lenders during a panic is to determine who is solvent and who is not, that's why all the liquidity dries up. No lender wants to pour money down a black hole.

Lending is sometimes characterized as a confidence game: if lenders all believed firms were solvent, they would be solvent because even the unsustainable Ponzi ventures would be sustained by more borrowed money.

Lending is a confidence game with regard to solvent institutions. When lenders lose the ability to discern between those who are insolvent and those who are not, they stop all lending: a credit crunch.

The federal reserve and the US Government came up with a solution. By declaring insolvent institutions solvent by decree, government makes some firms too big to fail, and it makes the US taxpayer responsible for plugging a hole in our economy that threatens to bring down our banking system.

During the mid-2000s, many forms of collateral around the world were either implicitly or explicitly backed by U.S. residential land. As I’ve described, beginning in mid-2007, it started to become clear that this asset had more risk than financial markets had originally appreciated. It was not clear, though, how much more risk was involved. As a result, financial markets became increasingly uncertain about how to evaluate assets backed by U.S. land. That uncertainty translated into uncertainty about the ultimate solvency of institutions holding those assets—and the ultimate solvency of any of those institutions’ creditors.

Here is where the confidence game interpretation becomes dangerous. This banker is describing this situation as if land is really worth what people were paying in 2006, and if the confidence game had not been disrupted, prices would still be there. That isn't reality.

The reason financial markets ware unsure how to value mortgage-backed securities is because the value of the house was grossly distorted by the financial products of the bubble. With the air abruptly removed from mortgage balances, prices were destined to fall.

As investors became more concerned about the quality of mortgage loans, the secondary market for private-label mortgage-backed securities nearly disappeared. As a result, about 90 percent of mortgages originated over the past two years were guaranteed by government-controlled entities such as Freddie Mac, Fannie Mae, the Federal Housing Authority, or the Veterans Administration. Investors are willing to purchase mortgages and mortgage-backed securities from these agencies mainly because they have faith that the federal government stands behind those instruments.

The only reason private investors are paying prices that permit 5% interest rates is due to the government backing. If investors had to price risk into the market, as they do with jumbo loans, interest rates would be significantly higher.

This heavy reliance on government guarantees is not a sound long-term strategy. Over time, our country needs a mortgage market that returns to greater reliance on private risk-taking and private risk assessment, along with the enhanced regulatory oversight that is already in place. And, in fact, discussions are currently taking place on suitable options for bringing more private capital back into the mortgage market.

Even more generally, I believe that as a country, we need to take this opportunity to rethink many aspects of our public policy programs in the context of housing finance. Home ownership has long been part of the American dream, in no little part because home owners have invested not just in their houses but in their communities. But, through the mortgage interest tax deduction and other programs, we are encouraging people to buy homes by taking on debt—and sometimes large amounts of debt. If we truly want to encourage home ownership, we should contemplate programs that provide incentives for individuals to save and become equity holders in their homes—and, by extension, in their communities….

Are loan owners equity holders in their communities?

The argument used by policymakers for a wide range of government home-ownership assistance programs is home ownership quiets social unrest. People don't riot in a community they feel a connection with.

At some level, there is truth to the idea that people with a feeling of ownership take better care of things. Does owning a home create a feeling civic pride?

Let's assume that it does. The effect may be small, but civic pride is emotionally satisfying, and it tends to get incumbents elected to office, so policies that promote civic pride are favored by government.

What is truly important for civic pride? Does the manner in which a house is occupied have a major impact on civic pride?

If fee-simple title holder with no mortgage encumbrance — a true home owner — feels civic pride as an extension of their ownership, it is likely that mortgage holders also feel this pride in home ownership and community even though their actual ownership claim to real estate (equity) may be very small. The feeling of ownership is only loosely tied to a claim to an asset of tangible value.

In the case of underwater home owners, their claim to real estate has no current liquidation value. For their own personal balance sheets, the property still has option value — their position may have liquidation value again in the future if prices go back up and they have equity again. This option value is the dangling carrot of hope that keeps debtors on the hamster wheel to service the debt. When debtors lose this hope, they strategically default.

The lending line of support in Irvine has been holding median mortgage balances in a tight range since the credit crunch in late 2007. That level of lending is holding the median sales price about 20% below the peak. At that price level, peak buyers are right on the cusp of going underwater.

Once prices drop below the previous median loan peak, the cascade effect of strategic defaults pounds market prices back to the stone ages. This is the lending cartel's greatest fear. Based on the tendency to strategically default, I deduce that loan owners do not have a deep bond with the community at large — or at least not a bond that prompts them to take one for the team.

What about renters?

As a renter, I often ask myself what my connection to the community really is. Like loan owners, I have no equity stake in Irvine real estate. And like a loan owner's option value, I have an intangible freedom value they do not enjoy.

I feel as part of the community as anyone. Being the writer of this blog for four years, I have woven myself into the local fabric. I recently moved to Woodbury, and I feel very comfortable and at-home here. As a renter, I can attest to the possibility of renters for community involvement and a feeling of belonging.

Home ownership does not define one's sense of community.

They waited until the equity was gone, then they foreclosed

When banks stopped processing all mortgage delinquencies as they happened in early 2008, they had to establish buckets of similar loans and determine what to do with them.

One such bucket is composed of properties where the mortgage holder is delinquent, but they still have significant equity. Lenders have no urgency to foreclose on this group because as long as their is equity, they can foreclose whenever they want and still get paid in full. In fact, since they profit on all the fees and late charges, they have incentive to drag the process out until the loan balance is large enough to consume all equity.

That is what the lender did on today's featured property.

The property was purchased on 4/23/2004 for $900,000. The owner overpaid using a $595,000 first mortgage and a $305,000 down payment. Savvy cash buyer, right?

On 6/29/2004 she got a $100,000 HELOC, but it doesn't appear to have been used. On 12/27/2005 she obtained a $55,000 stand-alone second.

By late 2005, this property only had $650,000 in debt, and at the time, it was likely worth much more than that. In late 2007 or early 2008, she went delinquent on the first mortgage.

Foreclosure Record

Recording Date: 04/22/2010

Document Type: Notice of Sale

Foreclosure Record

Recording Date: 08/28/2008

Document Type: Notice of Sale

Foreclosure Record

Recording Date: 05/08/2008

Document Type: Notice of Default

Wells Fargo was the loan servicer, and they foreclosed on 12/7/2010 for $713,932 — the outstanding balance on the first mortgage.

During the time this debtor was delinquent, the loan went from less than $600,000 to more than $700,000. The lender let them squat until their equity ran out, then they foreclosed.

There was no free lunch for this borrower.

Irvine House Address … 14 FREEDOM Pl Irvine, CA 92602

Resale House Price …… $779,900

House Purchase Price … $900,000

House Purchase Date …. 4/23/2004

Net Gain (Loss) ………. ($166,894)

Percent Change ………. -18.5%

Annual Appreciation … -2.0%

Cost of House Ownership

————————————————-

$779,900 ………. Asking Price

$155,980 ………. 20% Down Conventional

4.84% …………… Mortgage Interest Rate

$623,920 ………. 30-Year Mortgage

$158,557 ………. Income Requirement

$3,289 ………. Monthly Mortgage Payment

$676 ………. Property Tax (@1.04%)

$125 ………. Special Taxes and Levies (Mello Roos)

$162 ………. Homeowners Insurance (@ 0.25%)

$0 ………. Homeowners Association Fees

============================================

$4,252 ………. Monthly Cash Outlays

-$798 ………. Tax Savings (% of Interest and Property Tax)

-$772 ………. Equity Hidden in Payment (Amortization)

$289 ………. Lost Income to Down Payment (net of taxes)

$195 ………. Maintenance and Replacement Reserves

============================================

$3,166 ………. Monthly Cost of Ownership

Cash Acquisition Demands

——————————————————————————

$7,799 ………. Furnishing and Move In @1%

$7,799 ………. Closing Costs @1%

$6,239 ………… Interest Points @1% of Loan

$155,980 ………. Down Payment

============================================

$177,817 ………. Total Cash Costs

$48,500 ………… Emergency Cash Reserves

============================================

$226,317 ………. Total Savings Needed

Property Details for 14 FREEDOM Pl Irvine, CA 92602

——————————————————————————

Beds: 5

Baths: 3

Sq. Ft.: 2550

$306/SF

Property Type: Residential, Single Family

Style: Two Level, Traditional

Year Built: 2000

Community: 0

County: Orange

MLS#: P772387

Source: SoCalMLS

Status: Active

On Redfin: 31 days

——————————————————————————

Bank Repo! Fresh interior two tone paint and new carpet. Beautiful 5 br 3 ba pool home value priced for quick sale! Spacious living room, dining area, separate family room with granite fireplace and plantation shutters, open & bright kitchen with granite counters and center island, gorgeous distressed hardwood floors throughout, one bedroom and bath downstairs, master suite with granite tile floor master bath, dual sink vanity, separate tub and shower, tile roof. Super motivated seller. Submit!!!

Bankers' Circle of Life: principal reduction programs and unintended consequences

Are principal reductions on their way? Some form of it might be. Who will get the free money coming?

Irvine Home Address … 2349 South WATERMARKE Cor Irvine, CA 92612

Resale Home Price …… $429,000

But all are agreed as they join the stampede

You should never take more than you give

In the circle of life

It's the wheel of fortune

Some of us fall by the wayside

And some of us soar to the stars

And some of us sail through our troubles

And some have to live with the scars

Elton John — The Circle of Life

A year ago today, I had Soylent Green is People author a guest post, The Debt Star has Cleared the Planet.

He's back. And this time, the forces of light and goodness will prevail, right?

And now, Soylent Green Is People

(And my cartoons. None of the artwork in this post or any other is mine, and some of the cartoons are direct reproductions. My “cartooning” is limited to some limited photoshop work and the use of additional text generally in Comic Sans font.).

The Bankers Circle Of Life – principal reduction programs and unintended consequences.

Soylent Green Is People — April 7, 2011

Banks have had it good for the past couple of years. They’ve feasted on taxpayer subsidized capital, allowed accounting tricks to book phantom profits, and transferred privately created risk to the public’s balance sheet with nary a whisper of protest. Many responsible home owners continue to enriched said same bankers by paying mortgages that can never be refinanced into today’s lower rates. By owing more than the present value of their property, many home owners are trapped in a cycle that often ends in financial ruin.

The final insult to those who chose to live up to their promise to repay instead of living large through leverage will soon be here. How do I know this to be true? Since Irvine lives in the shadow of the House of Mouse, I thought it best to re-tell a family favorite to help illustrate how we got here, and what our inescapable future might look like.

In 2003 homeowners from far and wide came to see what special thing NAr-Fiki was revealing to the people of the USALands. Holding for all to see as an example of our bright future was Home Ownership, the offspring of King Conforming.

As Home Ownership grew older, King Conforming took him up to the highest point of the land – Peak Equity – and showed him a bountiful future. “Someday you’ll be a part of the Circle of Life. You’ll buy a home, pay off the loan, have plenty of equity to share with your children, and eventually see them become a home owner just like you.” That’s how it’s supposed to work out.

Unfortunately things began to go the wrong way in the USALands. Bankers ran out of loan programs that allowed greater fools to purchase homes at ever inflated prices. People began to panic. A mad rush to the exit began.

Home prices fell, crushing King Conforming. The only Big Cat left alive after the stampede was Home Ownership’s mean old Uncle “Sam” and the banker cartel.

During the Great Recession, Uncle Sam and his minions pushed Home Ownership out of the USALands. Jobs were few and far between. Prices were tunneling their way to the center of the earth. Only a few places seemed hospitable to relocate to. Eventually Home Ownership found the OC Oasis, a land flowing with milk an honey. There he made a few friends – the chatty Rodent and a well fed Pig. Home Ownership marveled at the lifestyles Rodent and Pig had – swimming pools with waterfalls, eating out more than in every night. How could they pay for their life of luxury? “Home Equity Ponzia” said Rodent. “It’s a wonderful thing”. Home Equity Ponzia, ain’t no crying shame”. “It means “No Worries” exclaimed Pig. Home Ownership was a little unsure of what all this meant and so didn’t dive in to debt along with his new neighbors.

As time went on life in the OC Oasis wasn’t going as planned. He wasn’t fully employed, things were getting a bit tight financially. In a vision one night King Conforming appeared telling Home Ownership that since he paid his house loan on time, certainly there were programs available that might make things easier, but they could only be obtained by going back to the land that Uncle Sam ruled. Even old NAr-Fiki came by, reminding Home Ownership that strategic default was a shameful, bad thing.

In the USALands, things were now worse than ever. Uncle Sam tried every trick in the book to get home prices back on track, but nothing was working. The remaining residents faced either unfit loan modifications or a lifetime of serfdom.

Home Ownership asked Uncle Sam to force his minions to let up on his loan terms, but to no avail. “Change?” asked Uncle Sam… “What is this hopey change you speak of? My banker cartel can’t profit from changing your loan terms so why would we do it?” Home Owner tried down to the last ounce of his strength and legal capacity to wrest control of his financial future from the bankers clutches but alas, it wasn’t to be.

Home Ownership was surprised to see his friends Rodent and Pig sitting next to Uncle Sam. ” Whatever remains after my bankers are done with you”, sneered Uncle Sam, “will be given to these two”. “Hey”, Rodent and Pig sang in unison, “We’ve got to maintain our lifestyle somehow. HomeEquity Ponzia!” Uncle Sam’s last words to the cornered Home Owner were chilling – “That’s how the Circle of Life really is, baby!”

And so the bankers devoured Home Ownership. The End.

Hey, I didn’t say the story would had a happy ending. This isn’t some friggin’ fairy tale.

Principal reduction plans are coming to USALands. Uncle Sam and his banker minions have several programs in place to get this started.

Bank of America set to write down principal on California mortgages

Mortgage Principal Reduction in Play

Ally to reduce mortgage principal in Michigan

We’ll focus in this post on what may become the biggest, baddest one of all, but first:

The Why Question.

Why are bankers going to reduce principal? What benefit might there be for them? The answer to this question is fundamental in understanding the reason for these programs. Like any complex story, it’s best told when the details are simplified. The following is a close approximation of why PA loans will start in earnest, but not a scenario that fits all circumstances. Also, we’re going to use a few assumed names along the way for copyright avoidance illustration purposes.

In 2008 Bank of Albania (BA) was given incentives by the Government to absorb the assets of the troubled mortgage lender Capital Wagon (CW), one of many marriages of convenience during those days. Venture capitalists also began to purchase from the FDIC mortgage debt from other failed banks over the past few years. The companies essentially paid a net price of .20 cents on the dollar or less for these troubled mortgage assets. Some assets turned in to REO’s, some loans were modified to keep the regulators and Congress at bay, but a vast number of these loans are simply not performing, threatening to swamp the survivor institutions balance sheets.

HUD created several programs to help facilitate mortgage relief for income distressed home owners, but it is the FHA Short Refinance / Negative Equity program that will be used to cycle the remaining private non-performing loans into taxpayer guaranteed debt.

Aren't they all bad banks?

Banks like BA will create a “bad bank” (BBA) – a place to dump off load their CW legacy assets at perhaps .40 cents on the dollar. That’s a nice profitable return (since their cost basis was .20 COTD) that BA conceivably could use to declare itself a “Well Capitalized” bank again.

BofA Segregates Almost Half of its Mortgages Into ‘Bad Bank’

Barclays could set up a “bad bank”, say analysts

How to Build a Bad Bank—for the Greater Good

BBA will now contact the home owners and offer them an FHA Short Pay refinance. Imagine a home owner getting a call from their loan servicer that goes something like this:

BBA – Hi, is this Mr. Refi Rodent?

RR – Yes it is.

BBA – I see you owe us $500,000 on a Stated Income 5/1 ARM.

RR – You mean the loan I’ve not made the $2,700 payment on for the last two years, The one with a rate of 3.2%?

BBA – Certainly! Here’s what I’d like to offer you. We see that home values in your area are now at $350,000. What if we cut your principal balance by $175,000 down to $325,000 and give you a 6.0% 30 year fixed loan. The payment would be $2,260. You owe less, your payment is reduced by $440, and all we ask is that you re-start to pay your loan for the next 60 days while we process this principal reduction. Deal?

RR – Frak YAH!

So in a few quick months BBA has turned a non-performing, un-sellable $500,000 loan (that cost them $200,000 when “purchased” from BA) into a shiny new easily re-sellable recourse FHA loan at $325,000 which you and I now are on the hook for as a taxpayer. My guess then is that BBA will in turn sell the loan back to BA at .80 cents on the dollar ($260,000) which makes the “Bad Bank” look like a pretty savvy operator. BA now has a 6.0% rate loan on their books which cost them originally around $100,000. The Bankers Circle of Life!

Remember this important factoid: The banks paid the market value of these loans or $100,000. The borrower is paying on the contractual value, or $500,000. When an FHA Short Pay refinance is transacted, the home owner is not getting a reduction in principal equal to the value of the loan, according to the bank’s valuation of the asset. The home owner is actually increasing the amount of their debt from the $100,000 assumed value to $325,000 present value based on current home prices. What happens tomorrow if the value of homes drops by another 20%? That’s the FHA Short Refinance borrowers Circle of Life. Their best course may be to again stop paying their loan. Rescue came to them once before. Whose to say it won’t happen again?

Some loan service companies offering these negative equity refinances will add a 5 year clawback provision. If there is a principal reduction of $100,000 and you sell at a higher price than current value, the home owner will have to give up the gain. After 5 years pass the feature sunsets. I’d be happy to wait 60 months before pulling the rip cord and bailing out if it meant I could sell for a gain, wouldn’t you?

Additional issues.

The borrowers who will have these offers made to them are those who took out Alternative Financing (ALT-A) or other now toxic portfolio loans, not traditional FNMA Agency 30 fixed rates. The Government created the Home Affordable Refinance Program (HARP) for those mortgages. These loans simply had the rate and not the principal balances reduced. Loan to Values under HARP were capped at 125% which does not help you if you purchased in parts of the Inland Empire or pretty much anywhere in Kern County. You’re stuck with the loan balance and the rate from 2006 unless you strategically default. Thanks for playing.

As principal reductions begin to spread, the social consequences will be catastrophic. When your neighbor comes over to share their excitement about their BA loan balance reduced by 35%, what will BA’s response be when you phone to get the same deal? That call will go something like this:

Responsible Home Owner: Hi, I’ve got a $417,000 30 year fixed loan that I didn’t refinance. My rate is 6.0% but values are such that I cannot fit within the HARP guidelines. The neighbor across the street just refinanced with you and got a lower balance. I’d like to do the same thing.

BA – I see that your loan is owned by Fannie Mae. Take it up with them.

Responsible Home Owner – But you made the loan, you take the payments, and you just refinanced someone I can see from my living room window lounging in his back yard pool. What’s the deal?

BA – I’m sorry, We actually bought this loan from another bank that wasn’t us even though we did have the loan originally. Besides only special cases can use this program. Would you like to open a new CD account with us? Our new rates are .00011013 percent for 60 month!

Responsible Home Owner – FFFFFRRRAAAACKKK YOOOOOOO!

Why should Responsible Home Owner continue to make their house payment at that point? Is it made out of guilt, obligation, or shame? To be honest, I’d have real doubts why I should fork over good money after bad if my neighbors got a consequence free haircut on their loan balance.

What now happens to property values? Well for one lets say values remain flat. The FHA Short Pay home owner decide to put their home on the market at the same time you do. Their sale will be an “Equity Sale” at a market price. Yours will be a Short Sale that might not close. If values fall further, their home will might also be a Short Sale, perhaps even an assumed FHA loan. Yours will likely become an REO. If values increase, you might eek out a slight profit and rent from there on out. Their gain will go towards the purchase of a better home in a nicer neighborhood.

In a world where principal forgiveness, unevenly and inequitably applied, becomes normative, the responsible will end up as waste byproduct in the Bankers Circle of Life. You can’t fight the coming principal reduction wave. It’s reach will stretch not just through the financial world, but down to the very streets we live on. It’s simply the amplified end point of a national policy of that enforces zero consequences for any actions.

Hakuna Matata er… HomeEquity Ponzia to all.

Soylent Green Is People.

It's the Circle of Life

And it moves us all

Through despair and hope

Through faith and love

Till we find our place

On the path unwinding

In the Circle

The Circle of Life

The Lion King — The Circle of Life

Some short sales aren't really for sale?

Today's featured property has been on the MLS for over three years. When a property is on the market for nearly 1,111 days, is it really for sale? Either the price is too high, or other conditions are preventing a sale from taking place which effectively remove it from the listing pool.

I write often about shadow inventory, but has anyone measured the MLS inventory that never transacts? There are currently 157 properties on the MLS that have been for sale for more than 180 days. Not to give false hope to the bulls, but if 150 listed properties aren't really for sale, how much inventory do we really have?

Irvine House Address … 2349 South WATERMARKE Cor Irvine, CA 92612

Resale House Price …… $429,000

House Purchase Price … $422,000

House Purchase Date …. 10/20/2005

Net Gain (Loss) ………. ($18,740)

Percent Change ………. -4.4%

Annual Appreciation … 0.3%

Cost of House Ownership

————————————————-

$429,000 ………. Asking Price

$15,015 ………. 3.5% Down FHA Financing

4.84% …………… Mortgage Interest Rate

$413,985 ………. 30-Year Mortgage

$87,218 ………. Income Requirement

$2,182 ………. Monthly Mortgage Payment

$372 ………. Property Tax (@1.04%)

$0 ………. Special Taxes and Levies (Mello Roos)

$89 ………. Homeowners Insurance (@ 0.25%)

$306 ………. Homeowners Association Fees

============================================

$2,949 ………. Monthly Cash Outlays

-$357 ………. Tax Savings (% of Interest and Property Tax)

-$512 ………. Equity Hidden in Payment (Amortization)

$28 ………. Lost Income to Down Payment (net of taxes)

$54 ………. Maintenance and Replacement Reserves

============================================

$2,161 ………. Monthly Cost of Ownership

Cash Acquisition Demands

——————————————————————————

$4,290 ………. Furnishing and Move In @1%

$4,290 ………. Closing Costs @1%

$4,140 ………… Interest Points @1% of Loan

$15,015 ………. Down Payment

============================================

$27,735 ………. Total Cash Costs

$33,100 ………… Emergency Cash Reserves

============================================

$60,835 ………. Total Savings Needed

Property Details for 2349 South WATERMARKE Cor Irvine, CA 92612

——————————————————————————

Beds: 1

Baths: 1

Sq. Ft.: 818

$524/SF

Property Type: Residential, Condominium

Style: 3+ Levels, Mediterranean

View: Back Bay, City Lights, Estuary, Golf Course, Hills, Mountain, Park/Green Belt, Pool, Trees/Woods, Water

Year Built: 2003

Community: Airport Area

County: Orange

MLS#: S515125

Source: SoCalMLS

Status: Active

——————————————————————————

Best location in building with breathtaking views of the San Joaquin Nature Preserve and Wetlands, golf course, city lights, along with one of the three pools. This is a rare, private one bedroom and one bath Carlton Arms unit, with a walk-in closet, brand new carpet, granite counter tops, washer, dryer, dishwasher, refrigerator, crown moldings, and additional appliances included. The Watermarke community offers spectacular ammenities boasting three pools and four spas with cabanas, a 24-hour elite fitness center, facialist, masseuse, covered and lighted full-court basketball, ground and roof top tennis courts, and parks with playgrounds. The Clubhouse also offers concierge services, a gourmet kitchen, dry cleaning, sitting areas, an extensive library, custom movie/screening theater room, and business center. A must-see opportunity awaits!

Thank you, Soylent Green Is People. Apparently, you are my cartooning muse.

51% think homeownership encourages excessive debt, 49% don't care

Over half of poll respondents believe home ownership encourages excessive debt. Is the glass half full? Is public becoming more aware of the true cost of ownership? Is the glass half empty? Is the public becoming apathetic to the huge debt burdens they are asked to take on.

Irvine Home Address … 172 GARDEN GATE Irvine, CA 92620

Resale Home Price …… $555,000

They say the sea turns so dark that

You know it's time, you see the sign

They say the point demons guard is

An ocean grave, for all the brave,

Was it you that said, “How long, how long,

How long to the point of know return?”

Kansas — Point of No Return

The Ponzi moment

Debt is only a problem for those who plan to pay it off. Ponzis, and sophisticated personal financial managers, use debt as a tool. If debt is on a house Ponzis can borrow against, the house is given the responsibility for paying off the debt. This shifting of responsibility is the Ponzi moment.

Going Ponzi is a psychological event. It occurs when the debtor comes to believe they will never pay off a debt with their wage income. They abdicate responsibility for repayment to the house itself. For Ponzis debt is not a problem. Only the inability to obtain more debt slows down a Ponzi.

If the Ponzi mind becomes widespread, house prices get bid up by those willing to pay any price to obtain free HELOC money. The rest of the world — the people who plan to pay down a mortgage with their wage income — they are faced with paying the Ponzi premium, and they face the risk of loss if they want to liquidate after one of the inevitable market crashes.

Americans dream for a home on unstable ground

By Tara Tran • Apr 5th, 2011 • Category: April 2011 Journal, Journal Articles, Lead Article

This article reviews a recent poll on American attitudes towards owning a home in light of the Great Recession and the housing crisis, and reevaluates the place of homeownership in the American Dream.

Homeownership is at home in the American Dream

Eighty percent of Americans believe it is of total importance they buy a home one day, 90% say they would buy their current homes again and 70% would advise their family and friends to purchase a home as a valuable long-term investment. Clearly the vast majority of Americans still sport a decisive thumbs up to homeownership despite the risk of loss inherent in homeownership made evident by the Great Recession and the housing crisis.

Our concepts of ownership are primal. Our desire to possess and defend a territory is rooted in basic survival needs for food and shelter. Irrespective of what happens to the price of shelter, people are going to desire it.

What's truly delusional is the despite the long-term losses people are going to endure, so many would still advise their friends and family to commit the same financial mistake and purchase a house as an investment. It is consumption, not investment.

All this is according to the latest Allstate Insurance and National Journal Heartland Monitor Poll which Financial Dynamic conducted to monitor middle-class America’s maneuvers in the economy’s post-recessionary aftermath. (The poll recorded a +/- 3% margin of error for 1000 respondents.) [For more information on the “Homeownership and the American Dream” poll, see National Journal article, A Solid Foundation: Why Americans still long for their own homes.]

The American Dream of wealth and independence sustains American homeownership, a national aspiration which is the result of society’s suspension of disbelief in the myth that home prices continually go up.

It does require an amazing cognitive dissonance to ignore the crash and continue to cling to old fantasies, or even deny the crash entirely. People filter data to see what they want to see.

For example, two-thirds of those Americans polled experienced some type of financial distress such as an underwater mortgage and still believe owning is better than renting.

It takes a great deal of faith in appreciation to believe ownership is better than renting when (1) the cost of ownership is higher than renting and (2) owning prohibits moving without a short sale. Trapped in an expensive money-rentership arrangement doesn't sound better than the cost savings and freedom of renting.

Seventy-five percent believe homeownership will help them achieve the American Dream, compared to the 22% who believe otherwise, and 80% believe owning a home is an integral piece of the American Dream, second only to raising a family.

Californians polled in the survey generally exhibit the same level of national spirit for homeownership ― 68%, compared to the national 75%, believe owning a home will help them live the Dream. In addition, 83% believe owning is a better financial decision than renting, and 71% would advise family and friends to buy a home to build long-term assets. (The poll’s California data recorded a +/- 10% margin of error for 99 respondents.)

Optimism and persistence are American

Homeownership is not solely an economic decision. The American image of the home is deeply imbued with social and cultural sentiments. Though 25% believe owning a home is the best type of investment for their money only behind a retirement plan, 60% in the survey view homeownership chiefly as a means to settle down and raise a family. Thirty-six percent view homeownership as an opportunity to build equity.

I wonder what percent in California would say home ownership is an opportunity to get free spending money? I bet it's higher than 36%.

The general consensus is present economic troubles and housing market miseries are but minor impediments to the American Dream. Sixty-three percent of Americans and 67% of Californians trust the housing crisis is temporary and the housing market will improve. Nationwide 60% believe their skills coupled with a tough work ethic ― rather than the economy ― has the most impact on their ability to achieve the Dream.

It's good to know more than half still believe they have to work and contribute in order to achieve their dreams. If we every lose that, we are doomed as a nation.

Splintered views in uncertain times

Though many Americans are convinced they control their own Dream, the Great Recession and the housing crisis cast doubt over what part the government plays in subsidizing American homeowners. Americans and Californians are split over the matter. Fifty percent of the nation and 42% of the state want to reduce the role of government agencies like Fannie Mae and Freddie Mac, yet 42% nationwide and 52% statewide want the government to continue its role. On the home mortgage tax deduction question, 50% want the government to keep the subsidy, while 43% want to limit or eliminate it. Californians polled at 56% to keep the subsidy and 37% to trim it down or cut it out. [For more information on getting rid of the home mortgage tax deduction, see the February 2011 first tuesday article, The home mortgage tax deduction: inducing debt and stifling mobility.]

I think it's interesting that nearly half would like to see the GSEs disappear along with the mortgage interest deduction. That represents a significant change of thinking since the bubble popped in 2006.

It should be noted the poll shows some Americans appear misinformed about how the government housing policy works. Seventy-five percent report they have not benefited from federal homeownership policy even though 71% report they have taken a home mortgage tax deduction.

Americans do not understand the myriad of ways government policy impacts the housing market. It isn't surprising that 75% don't realize they benefit in some fashion (how many have government-backed loans?)

The same level of ambivalence exists on the question of whether homeownership stabilizes American society. Forty-two percent agree homeownership has created stable communities because it encourages people to actively invest in a neighborhood and its surrounding area. However, 51% think homeownership encourages people to incur high amounts of debt, which renders them unable to pay their mortgages if they lose their jobs, and results in increased foreclosures and blighted communities.

The community benefits of home ownership are overshadowed by the harsh reality of dodgy loans creating blight and foreclosures. Remember Vicente the Fox?

California’s response to the relationship between homeownership and the health of a community differed from national results, which is not surprising since the state has been hit much worse by the housing crisis than the rest of the country. Seventy-seven percent of Californians report their homes have decreased in value (fact: all have decreased), compared to the 41% nationwide, and 40% say their homes are underwater, compared to the 18% nationwide.

The other 23% are the permanently kool aid intoxicated or completely oblivious.

As a result, 61% of Californians believe homeownership has only made communities less stable.

Home ownership didn't destabilize communities, loan ownership did.

Younger Americans surveyed seemed the most uncertain about buying a home, but overall, the poll demonstrates the economic down has caused Americans to ask questions about homeownership and the American Dream, but it has not budged their desire for it.

Time to reevaluate the Dream

Americans, and Californians included, are split or confused on what role the government has on the issue of homeownership. They are divided as to whether the government should continue to intervene in the housing market.

Americans crave homeownership, even if they understand they will have to trudge through the backwash of another cyclical recession and accompanying housing crash. But Americans need to distinguish: the Dream is homeownership, not homedebtorship, as promoted by interest deductions. The craving however is not the result of tax policies, which if eliminated would not alter the American compulsion to own and gain wealth.

Homeownership is not for everyone, and those who are forced to finance that acquisition might ask themselves whether owning is the right decision. The job mobility provided by renting is what has always enhanced California’s economy, attracting the most creative and industrious people in the world. Here, homeownership is near 50% of those housed in California, while the rest of the nation ranges around 70%.

The real estate industry calls the mortgage interest deduction the “catalyst of the American Dream,” but an American Dream based on irresponsible indulgence has more costs than benefits. [For more information on the housing subsidy problem, see the December 2010 first tuesday article, The mortgage interest tax deduction imbroglio – the squabble continues.]

At its very core, a home is a form of shelter, a basic life necessity. However since the 1970s, national public policy encouraged and exploited by lenders, builders and brokers marketed homeownership as a symbol of success and autonomy. The glamorous spotlight on the accessibility of homeownership for everyone thus casts a shadow of disapproval on renting, but what is there to be embarrassed about when paying cash to buy a home? If being in debt is a foundation to homeownership in America (and one of the reasons for the housing crisis), then Americans need to change their attitudes towards homeownership. Dreaming about homeownership is laudable, but on a solid foundation. [For more information on the trends of American attitudes towards housing, see the October 2010 first tuesday article, Is homeownership a luxury or necessity?]

$417/SF in debt

These little houses carry a remarkable amount of debt. I really like this neighborhood, but the prices of houses here are extraordinarily high on a per-square-foot basis. Today's featured property was purchased on 11/29/2004 for $520,000. The owners used a $416,000 first mortgage and a $104,000 down payment. They refinanced on 10/13/2005 with a $420,000 first mortgage and a $80,000 second mortgage. They withdrew all but $20,000 of their down payment.

They are priced to sell at breakeven in hopes of capturing the remainder of their down payment. However, since they are the highest priced home in Northwood on a per-square-foot basis, I have my doubts whether they will get their money back.

Irvine House Address … 172 GARDEN GATE Irvine, CA 92620

Resale House Price …… $555,000

House Purchase Price … $520,000

House Purchase Date …. 11/29/2004

Net Gain (Loss) ………. $1,700

Percent Change ………. 0.3%

Annual Appreciation … 1.0%

Cost of House Ownership

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$555,000 ………. Asking Price

$111,000 ………. 20% Down Conventional

4.84% …………… Mortgage Interest Rate

$444,000 ………. 30-Year Mortgage

$112,834 ………. Income Requirement

$2,340 ………. Monthly Mortgage Payment

$481 ………. Property Tax (@1.04%)

$150 ………. Special Taxes and Levies (Mello Roos)

$116 ………. Homeowners Insurance (@ 0.25%)

$134 ………. Homeowners Association Fees

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$3,221 ………. Monthly Cash Outlays

-$398 ………. Tax Savings (% of Interest and Property Tax)

-$549 ………. Equity Hidden in Payment (Amortization)

$206 ………. Lost Income to Down Payment (net of taxes)

$69 ………. Maintenance and Replacement Reserves

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$2,549 ………. Monthly Cost of Ownership

Cash Acquisition Demands

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$5,550 ………. Furnishing and Move In @1%

$5,550 ………. Closing Costs @1%

$4,440 ………… Interest Points @1% of Loan

$111,000 ………. Down Payment

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$126,540 ………. Total Cash Costs

$39,000 ………… Emergency Cash Reserves

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$165,540 ………. Total Savings Needed

Property Details for 172 GARDEN GATE Irvine, CA 92620

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Beds: 2

Baths: 2

Sq. Ft.: 1200

$462/SF

Property Type: Residential, Single Family

Style: Two Level, Cottage

Year Built: 1998

Community: 0

County: Orange

MLS#: S652006

Source: SoCalMLS

Status: Active

On Redfin: 17 days

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Charm galore in this 2 bedroom plus den cottage home in Northwood Pointe. Light & open floorplan features living room w/ built ins, gourmet kitchen w/ sparkling white counters & cabinets, & dining area w/ cozy fireplace. All rooms are open to each other, making this a perfect floorplan for living & entertaining. Gorgeous slate tile flooring accents the main floor. Tranquil master bedroom features bath area with dual sinks, travertine tile floors, & walk in closet. Second bedroom has it's own private full bath w/ travertine tile floor. The versatile den could also be used as an office, playroom, nursery, workout room, or craft area. Your yard & outdoor living area is highlighted by a custom built in BBQ area w/ sink & slate topped dining bar, a patio trellis with outdoor lighting, & mature trees for privacy. Enjoy relaxing in this tranquil oasis at the end of the day. 2 car garage has built in storage. Walking distance to award winning Canyon View Elementary & Northwood High. A real gem!