I think that stopping the govt backing of loans needs to phased out, or we won’t live long enough to see the market recover. They never should have backed them to begin with but pulling the plug now would plummet current values.
Shhh...don’t inject common sense. It upsets people.
My plan, that I came up with driving to work today:
(the initial idea I heard somewhere but nobody has really elaborated)
Let’s assume that there has to be some structure in place and that completely removing government in one fell swoop would send property values to 40% of where they are now...which is probably true, so a pragmatic solution could be:
Instead of the government backing loans with an average size of $250,000 or whatever, why not second mortgages (as down payments, I don’t mean “equity loans” which could still be offered by private institutions)??
Let’s say that the first mortgage market (as in first lein position) returns to a pre-CRA status, similar to how Fannie and Freddie operated from around 1968 to about 1992 - private companies that had an implicit government guarantee but never used it, and lent responsibly and allowed money to be available to lend at reasonalbe standards. Let’s allow a new company to be created to do this (so as not to have FNMA/FHLMC’s baggage) that can provide funding, securitization, etc for the mortgage market. This will operate just like the old Fannie (pre-CRA) but have NO government guarantee implicit or otherwise, it will simply work with the free market. This organization will help banks provide mortgage loans up to probably 80% of the purchase price (or value at refinance) of a home, more or less. It could vary a bit either way but let’s just say 80% for now. So, a 20% down payment is required. The banks can lend either out of their own deposits the old-fashioned way, or use securitization via “New Private Fannie” as I call it (obviously it would have a cooler name than that) as Fannie/Freddie did for years.
Where government guarantees get involved is in that other 20%. It would operate similar to FHA, where various banks would provide the servicing and initial funding, but it would be insured/backed by government. This would be a second mortgage loan (I’ll hereby refer to as “Government Seconds”) that would close with the first (so you’d have two payments) at market rates (right now probably around 6 - 7%) and go up to a total of 95% of the home value (first loan to 80%, another 15% by this second loan) and allow as little as 5% down payment. The payoff term will be shorter than 30 yrs, say 15 years (even if the large first mortgage is a 30 year) to ensure the government portion gets paid off first. However, since the first being at 80% will eliminate need for PMI, the combined payments between both loans will add up to about the same as the single payment on a 3% down FHA loan would today.
Now the fun part. The second mortgages will be in second lein position (obviously), meaning in a foreclosure scenario, the (private) first mortgage lender is first in line to get paid off. However, the second mortgage will now be treated more like a student loan or IRS tax debt - in other words, NOT dischargeable in bankruptcy, and will pretty much have to be paid off if you attempt to buy another house. Since the amounts will be much smaller, it will be more reasonable to have that expectation (fully disclosed when you get a loan) that this small second loan will stick to you until it’s paid pretty much no matter what, just like an IRS lein would.
The “Government Second” is a purchase only product with one exception - meaning, you cannot use this loan to cash out, only to buy a house. The exception would be if you have a large (greater than 80% loan to value) pre-existing mortgage and wish to refinance, you can get a new private first and new Government Second just that one time at refinance but can’t get cash out of it, can only do it to improve rate/term/payment.
Once you have a Government Second and wish to refinance later on, you either must pay off that second with private money (either a single first mortgage to pay off both old loans if you have the equity, or a private new second mortgage), or, subordinate it to the new first mortgage (meaning government agrees to stay in second lein position.
Furthermore, you can’t have two of these “government seconds” at one time, so if you want to buy investment properties or a second home, you have to have the down payment, or, find a private lender willing to lend on little down payment.
This accomplishes several things.
1. Provides homebuyers with options who don’t have 20% down, and keeps the pool of buyers larger than a 20% down requirement across the board would, preventing huge price drops below what we’ve already seen.
2. Keeps private banks private, and since they’re first in line if a foreclosure occurs, they take less loss, and taxpayers aren’t on the hook.
3. The tax-like nature of the debt means that in most cases the government will get their money as they do with IRS debts now on that second mortgage, if a foreclosure indeed occured. The smaller loan amounts that government is involved with also means a much smaller actual dollar amount that taxpayers are on the hook for even in a worst-case scenario.
4. Due to the “sticky” nature of that second loan, it somewhat eliminates the “no skin in the game” problem inherent with low-down mortgages.
There are two reasons low down payment loans are risky - one is the lack of equity and the other is that, if you put less of your own hard-earned cash into it, you’re more likely to walk when the going gets tough. Since this government second doesn’t really go away, it at least to some degree improves the incentive to pay for low down payment loans to probably almost as high as it would be if they’d put the cash down.