Time to tackle the real evil: too much debt
ft.com
ft.com
"The only solution is to transform debt into equity across all sectors, in an organised and systematic way. Instead of sending hate mail to near-insolvent homeowners, banks should reach out to borrowers and offer lower interest payments in exchange for equity."
As I understand it, most that will walk away from their homes are upside down, meaning they owe more on the property than it is worth. That is also the reason that they're unable to refinance.
So the authors suggest that the bank lower the interest on the loan in exchange for equity which the homeowner has none of?
It's now worth $900K and you're considering walking away.
What if the bank took 15% ownership of your house, in exchange for reducing the principal balance to $800K? You'd pay less on your mortgage (balance of $800K instead of $1000K), and while you'd be slightly upside-down (you'd owe $800K on $765K worth of house), you're still much closer than when you were $100K in the hole. (Plus, you don't have the PITA, stigma and credit rating destruction of getting foreclosed on.)
Fast forward a few years and you can sell the house for $950K and decide to do so. You get $807K, the bank gets $142K (compensating them partially for forgiving $200K of your original balance in exchange for the 15%). In almost all cases, that delayed $58K loss is better than an immediate $250K loss from foreclosing and selling for $750K or so.
That's but one way to accomplish the debt-to-equity exchange.
Hmm - no. You get a little bit over $7k. You still have to pay off the mortgage, and very little of that happens in the first few years.
Note that you're assuming another housing boom because you need it to make the "equity forgiveness" look less insane.
The big problem is the assumption that these folks can pay an $800K loan yet a $1M loan is completely out of their range. For a small minority, maybe but most of the people in this situation can't afford the $800K loan either.
Yes, some folks are bailing on loans that they can afford, but the vast majority of foreclosures involve people who can't afford their loans. They're not 20% away from making it, they're 50-70% away. (Banks don't foreclose on folks who are current.)
I don't think that this is necessarily a "great idea" but I was just trying to explain how the bank can get "equity" (a share of ownership) from a homeowner who is underwater in their current mortgage.
If it's under inflation, this equity deal is a bad one for the bank.
> I was just trying to explain how the bank can get "equity" (a share of ownership) from a homeowner who is underwater in their current mortgage.
No - you were claiming that this sort of deal made sense for a bank. Getting equity isn't actually a problem. And, there are many deals that a bank can do, so inventing one isn't actually all that interesting.
The relevant deals are profitable.
And, you still haven't addressed the real problem, that the vast majority of these folks can't afford an $800K loan either.
The bank is already in a tough spot. They're $100K+ in the hole in a foreclosure situation, so going a lesser amount in the hole is an improvement in their situation. You cannot compare to the "don't make the original mortgage loan case" and say that because they're "giving away" $65K in value that it's the worst of their available options.
> No - you were claiming that this sort of deal made sense for a bank.
Please show me the text that makes that claim. (I happen to think that it does, but I don't believe I actually made that claim.)
> And, there are many deals that a bank can do, so inventing one isn't actually all that interesting.
> The relevant deals are profitable.
There are many. OK, please propose maybe two alternate deal structures under the above facts/circumstances that are materially different and better for the bank. (Saying they'll take 18% equity for otherwise the same loan mod is not materially different IMO, even though it's obviously better for the bank.) Ideally your proposed deals would have a chance in hell of the bank offering and the borrower accepting.
> And, you still haven't addressed the real problem, that the vast majority of these folks can't afford an $800K loan either.
The fact that people who once got a million dollar mortgage and now can't afford an $800K mortgage is not my problem to address. I didn't loan them the money, and unless they're in my neighborhood, it's such a vanishingly small part of my damn business or concern that I'll choose to spend time on things that do matter to me or that I can influence.
If the bank lent to someone who couldn't possibly repay on the day they took the loan, that person needs to get foreclosed on, the bank needs to take the losses and look at its underwriting standards, and the borrower should have their credit rating dinged for their own irresponsibility.
If a job loss or income change prompts the foreclosure, then I feel more sympathetic to both the lender and borrower, but some portion of loans are going to go bad, and in the "less than 20% down" loans, the bank was knowingly taking larger risks, so I don't feel too bad about their larger losses. The borrower in this case has still made and failed to keep a commitment, which speaks to creditworthiness, so again the credit downgrade is fair/appropriate, even if it seems like "piling on".
For people who could afford an $800K mortgage (and many of them could afford to keep current on their $1mm mortgage), but there are some who would choose not to because their mortgage is non-recourse and they're far enough underwater on the house that it's literally in their best financial interest to walk away. Those people are the ones for whom a loan mod could make more sense to both sides than a bank foreclosure.
You wrote that it was better than foreclosure.
> The fact that people who once got a million dollar mortgage and now can't afford an $800K mortgage is not my problem to address.
Technically, none of this is your problem. However, you claimed to be offering useful suggestions for banks' problems. Trading a loan that doesn't work for a loan that can't work doesn't help the bank.
So the authors suggest that the bank lower the interest on the loan in exchange for equity which the homeowner has none of?
Maybe this is intended for homeowners that don't owe more than their property is worth, but they are getting closer as housing prices go down.
For homeowners than owe more than the property is worth, the debt should be renegotiated if the banks want to get any money out of them.
What about the people who didn't "buy dumb"? Why should they pay to keep said "homeowners" in houses that they never could afford?