I also write a daily blog for my financial advising firm, and yesterday, I wrote the following blog after several conversations with one of my partners. There was an overwhelming response of support for it, so I thought I would post it here as well. I hope you enjoy it.
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Politics. That one simple word conjures up various thoughts in everyone's mind, and yet it is something we all must deal with every day.
In our office, we sometimes have some pretty lively debates regarding economic issues, the stock market, and most assuredly anything political. I bring this up because there has been one issue recently that has allowed us to come to the same conclusion - how to fix housing.
More than a month ago, we sat around listening to the talking heads on CNBC, CNN, Fox News, etc. go back and forth about how to fix housing. We have all heard about or seen some of the rants from both sides of the spectrum, and in the end, everyone walks away a little more fired up against the other side. Does it really have to be this way?
No.
Our solution is simple - allow every single conforming loan ($417,000 in most areas) of a primary residence to be refinanced by the homeowner(s) at 4.0% or 4.5%. That's the plan. (The current value of the home would be verified, but it would not stop a refinance.)
If every single homeowner were allowed to refinance and get a benefit, would everyone still be yelling about helping their neighbor? Everyone benefits, and for those that are renting, become a homeowner by purchasing a home with the $8,000 credit and a 4.5% loan.
Arguments Against the Plan
Still Cannot Afford It
Now this is an issue. If this is due to a change in income, then there may be no alternative to foreclosure. At the same time, by cutting the rate from 6.25% to 4.0%, a $200,000 mortgage goes from $1,231.43 a month to $954.83 a month. This is a savings of $276.60 a month, $3,319.20 a year, or $99,576 over the life of the loan. How stimulative would that savings be?
Also, the current Homeowner Affordability and Stability Plan could still be used to help those that really have a need. A reduction to 4% across the board though removes some of the work to allow those that are in dire need to be serviced more effectively.
Underwater
We have all listened to the arguments about "being underwater" in your mortgage. If being "underwater" in a loan is a reason for loan modification and a reduction of principal, I am buying a new car tomorrow. I could go buy that nice $50,000 Lexus, drive out, and refinance it for loan modification reasons immediately with probably $10k knocked off my principal on day one.
When you buy a new car, it is usually financed for 5 years, and most estimates are that you are underwater for the first 3 years. Do most people stop paying because they are underwater? The answer is no. Should a house be any different? The mortgage is for 30 years, and assuredly, you cannot be underwater for all of it.
I read an editorial that said some mortgages are now 160% of the value of the house. Once again, a new car drops in value by at least 20% in the first year. While 160% is high, the housing market will recover given time. We do not need to simply focus on the here and now but the future as well.
Another editorial said that without principal reduction, “they would be renting their homes from the lender.” For $950 a month in principal and interest payments, isn’t this as inexpensive or even less than renting a comparable house? Additionally, the mortgage interest is tax deductible, so it would be even more affordable once that is calculated in to the bottom line.
Arguments For the Plan
Reduction of Supply
If someone was on the fence about selling a house, they might just want to stay there. Go forward three years, and now, that 4.0% mortgage is very valuable. If I am thinking of selling my house in 2012, it is going to need to be a good deal because I will be giving up a great mortgage to go out and buy a house at current mortgage rates. This is going to keep the supply of the existing home sales down to those that really want to sell. A reduction of supply means generally higher home values for all (supply and demand).
Increased Spending, Saving, and Debt Reduction
The main goal of the plan would be to lower the debt payments which would create excess cash. This excess cash could be used to pay down debt or added to savings, but the truth is a sustained reduction like this would most likely be used as increased spending with only a small amount to debt reduction or savings.
Most of the data points to the fact that “large” stimulus payments are used for debt reduction or savings, but sustained increases are generally put back in the “budget” of the family and spent. This is one reason that President Obama’s American Recovery and Reinvestment Act included the Making Work Pay provision.
This provision would give a refundable tax credit of up to $400 for working individuals and $800 for married taxpayers filing joint returns (there are phase out provisions). For people who receive a paycheck and are subject to withholding, the credit would typically result in an increase in take-home pay of about $8-$10 per week.
Removing Toxic Assets
Since the vast majority of loans would be refinanced in this scenario, it allows Fannie Mae/Freddie Mac to regain some control and repackage the loans in an orderly fashion. This would also automatically reduce some of the “toxic assets” being held by the banks as they are refinanced. The remaining toxic assets could then be dealt with on a smaller scale, and the loan loss reserves set aside by the banks would most likely be more than adequate to handle any further issues.
Reducing the “Liar Loans”
One of the other added benefits from this plan is that since the old “Liar Loans” are no longer available, this plan would help verify the income using real standards. No longer will a loan with a made up income be used to push through underwriting. This would also help with the affordability and risk associated with each loan – once again to allow them to be packaged together with real risk ratings.
Conclusion
We are sure that somehow even this plan would be an issue because nothing is simple when you hand anything off to our government, but ANY plan should be more inclusive and not exclusive. Penalizing those that “have been responsible” is not the solution. When we allow as many people as possible to participate, the resulting stimulative effects just grow.
On the tax side of the plan, the mortgage interest would decrease thus the net taxable income side would increase. Yes, this would probably increase taxes just a hair because you would have a smaller deduction, but the net effect would still be extremely positive.
This is not a plan without expense, but it allows for greater involvement and thus acceptance by the public. This plan has both short and long term benefits since the interest rate decreases are for 30 years. We would be building a continued consumer boom with less debt accumulated and continued spending. This is much more responsible than continuing to push consumers to spend using credit instruments and building a debt mountain.
Your thoughts on the plan are welcomed.
Robby Schultz & Eddie Wilcox
---------
For those that would like to read some editorials that we read while contemplating this plan, this is a good list to start with (most deal with using principal reduction):
- Matters of Principal – New York Times – March 5, 2009
- Helping the House Poor – New York Times – March 6, 2009
- Obama’s Mortgage Plan is What We Need – The Wall Street Journal – March 6, 2009
----
Politics. That one simple word conjures up various thoughts in everyone's mind, and yet it is something we all must deal with every day.
In our office, we sometimes have some pretty lively debates regarding economic issues, the stock market, and most assuredly anything political. I bring this up because there has been one issue recently that has allowed us to come to the same conclusion - how to fix housing.
More than a month ago, we sat around listening to the talking heads on CNBC, CNN, Fox News, etc. go back and forth about how to fix housing. We have all heard about or seen some of the rants from both sides of the spectrum, and in the end, everyone walks away a little more fired up against the other side. Does it really have to be this way?
No.
Our solution is simple - allow every single conforming loan ($417,000 in most areas) of a primary residence to be refinanced by the homeowner(s) at 4.0% or 4.5%. That's the plan. (The current value of the home would be verified, but it would not stop a refinance.)
If every single homeowner were allowed to refinance and get a benefit, would everyone still be yelling about helping their neighbor? Everyone benefits, and for those that are renting, become a homeowner by purchasing a home with the $8,000 credit and a 4.5% loan.
Arguments Against the Plan
Still Cannot Afford It
Now this is an issue. If this is due to a change in income, then there may be no alternative to foreclosure. At the same time, by cutting the rate from 6.25% to 4.0%, a $200,000 mortgage goes from $1,231.43 a month to $954.83 a month. This is a savings of $276.60 a month, $3,319.20 a year, or $99,576 over the life of the loan. How stimulative would that savings be?
Also, the current Homeowner Affordability and Stability Plan could still be used to help those that really have a need. A reduction to 4% across the board though removes some of the work to allow those that are in dire need to be serviced more effectively.
Underwater
We have all listened to the arguments about "being underwater" in your mortgage. If being "underwater" in a loan is a reason for loan modification and a reduction of principal, I am buying a new car tomorrow. I could go buy that nice $50,000 Lexus, drive out, and refinance it for loan modification reasons immediately with probably $10k knocked off my principal on day one.
When you buy a new car, it is usually financed for 5 years, and most estimates are that you are underwater for the first 3 years. Do most people stop paying because they are underwater? The answer is no. Should a house be any different? The mortgage is for 30 years, and assuredly, you cannot be underwater for all of it.
I read an editorial that said some mortgages are now 160% of the value of the house. Once again, a new car drops in value by at least 20% in the first year. While 160% is high, the housing market will recover given time. We do not need to simply focus on the here and now but the future as well.
Another editorial said that without principal reduction, “they would be renting their homes from the lender.” For $950 a month in principal and interest payments, isn’t this as inexpensive or even less than renting a comparable house? Additionally, the mortgage interest is tax deductible, so it would be even more affordable once that is calculated in to the bottom line.
Arguments For the Plan
Reduction of Supply
If someone was on the fence about selling a house, they might just want to stay there. Go forward three years, and now, that 4.0% mortgage is very valuable. If I am thinking of selling my house in 2012, it is going to need to be a good deal because I will be giving up a great mortgage to go out and buy a house at current mortgage rates. This is going to keep the supply of the existing home sales down to those that really want to sell. A reduction of supply means generally higher home values for all (supply and demand).
Increased Spending, Saving, and Debt Reduction
The main goal of the plan would be to lower the debt payments which would create excess cash. This excess cash could be used to pay down debt or added to savings, but the truth is a sustained reduction like this would most likely be used as increased spending with only a small amount to debt reduction or savings.
Most of the data points to the fact that “large” stimulus payments are used for debt reduction or savings, but sustained increases are generally put back in the “budget” of the family and spent. This is one reason that President Obama’s American Recovery and Reinvestment Act included the Making Work Pay provision.
This provision would give a refundable tax credit of up to $400 for working individuals and $800 for married taxpayers filing joint returns (there are phase out provisions). For people who receive a paycheck and are subject to withholding, the credit would typically result in an increase in take-home pay of about $8-$10 per week.
Removing Toxic Assets
Since the vast majority of loans would be refinanced in this scenario, it allows Fannie Mae/Freddie Mac to regain some control and repackage the loans in an orderly fashion. This would also automatically reduce some of the “toxic assets” being held by the banks as they are refinanced. The remaining toxic assets could then be dealt with on a smaller scale, and the loan loss reserves set aside by the banks would most likely be more than adequate to handle any further issues.
Reducing the “Liar Loans”
One of the other added benefits from this plan is that since the old “Liar Loans” are no longer available, this plan would help verify the income using real standards. No longer will a loan with a made up income be used to push through underwriting. This would also help with the affordability and risk associated with each loan – once again to allow them to be packaged together with real risk ratings.
Conclusion
We are sure that somehow even this plan would be an issue because nothing is simple when you hand anything off to our government, but ANY plan should be more inclusive and not exclusive. Penalizing those that “have been responsible” is not the solution. When we allow as many people as possible to participate, the resulting stimulative effects just grow.
On the tax side of the plan, the mortgage interest would decrease thus the net taxable income side would increase. Yes, this would probably increase taxes just a hair because you would have a smaller deduction, but the net effect would still be extremely positive.
This is not a plan without expense, but it allows for greater involvement and thus acceptance by the public. This plan has both short and long term benefits since the interest rate decreases are for 30 years. We would be building a continued consumer boom with less debt accumulated and continued spending. This is much more responsible than continuing to push consumers to spend using credit instruments and building a debt mountain.
Your thoughts on the plan are welcomed.
Robby Schultz & Eddie Wilcox
---------
For those that would like to read some editorials that we read while contemplating this plan, this is a good list to start with (most deal with using principal reduction):
- Matters of Principal – New York Times – March 5, 2009
- Helping the House Poor – New York Times – March 6, 2009
- Obama’s Mortgage Plan is What We Need – The Wall Street Journal – March 6, 2009
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