Foreclosure Crisis Solutions

The foreclosure news in Orange County is bad and probably will get worse. More than 1,000 county homes went into foreclosure in May, a record. Chapman University just reported that California’s economy, including Orange County’s, may be in a recession. One reason for this is undoubtedly the housing market collapse. A recent report from the National Association of Mortgage Bankers says that during the first quarter, California homes accounted for 21% of those that went into foreclosure around the country, more than Florida.
California now accounts for 13% of all foreclosures throughout the U.S., a staggering number.
I’ve seen this type of housing crisis before, during the recession of the early 1990s, and it wasn’t pretty. But this is
worse. Much worse. What makes foreclosures this time so devastating is that they continue to affect all homeowners,
not just those who have purchased or refinanced a home during the past several years. Each time a flood of
foreclosures hits the market, it depresses housing values in that market.
The Drum Beat
This constant drum beat of foreclosures and all the economic, social and legal turbulence they bring on our country is
creating as much of a national crisis as any hurricane or earthquake. The Federal Reserve projects that about
450,000 adjustable, high risk loans will “reset” every quarter through the rest of this year.
There will be an ongoing tsunami of resets, and thus foreclosures, next year and the year after through 2011, at
which point the devastation should start to abate, assuming no other monumental economic or international crisis
strikes.
There is a solution, and it’s one the federal government implemented once before with significant positive results: the
Resolution Trust Corp. The RTC was a government-owned asset management company mandated to liquidate
assets (primarily real estate and mortgages) that belonged to savings and loan associations that the Office of Thrift
Supervision had declared insolvent during the savings and loan crisis of the 1980s.
The RTC was created by the Financial Institutions Reform Recovery and Enforcement Act, adopted in 1989. In 1995,
its duties were transferred to the Savings Association Insurance Fund of the Federal Deposit Insurance Corp.
Key to Stability
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From 1989 to mid-1995, the RTC closed or otherwise resolved 747 thrifts with assets of $394 billion. Many believe
the RTC was key in stabilizing our nation’s economy at a time when anything less than decisive federal action could
have resulted in a greater Great Depression.
It’s time for the feds to give serious consideration to RTC II, or what I have dubbed the Housing Recovery Corp. If
they did it in the late 1980s, they can, and must, do it again.
As I envision it, the Housing Recovery Corp. will be a quasi-public entity that will establish housing recovery zones in
the hardest hit geographic areas, such as the Inland Empire.
It’s comparable to the federal government declaring disaster relief to areas such as the Gulf states after Hurricane
Katrina. The difference is, this could be a much bigger disaster across the entire country and the destructive force of
these massive foreclosures could create what I see as areas of economic “pocket depressions.”
Here’s how it works. Once a zone is in place, the Housing Recovery Corp. would purchase the debt of distressed,
owner-occupied homes from the debt holder at a discount. The HRC then would restructure the debt into a two-part
mortgage.
The first part would be a market-rate, performing mortgage that the HRC could sell into the secondary market. The
second would be an interest-free, self-amortizing loan based on a contractual agreement with the homeowner and
held by the HRC.
Let’s say a home in one of the housing recovery zones is on the verge of foreclosure because a young family
purchased their $500,000 dream home with a no down payment, and now they can’t afford the monthly payment.
The HRC would acquire the debt for let’s say $400,000 and then split it into a $250,000 first trust deed and a
$150,000 second trust deed. With this restructured loan, the family now can make the monthly payment.
If they stay in the home for, let’s say, 10 years, the HRC will forgive the second trust deed, allowing the family to
realize equity buildup.
If the family sells the home before the 10-year period, the proceeds after paying off the primary mortgage would go
toward paying down the unamortized portion of the second trust deed.
Win-Win
It’s a win-win. The homeowners would have an economic incentive to stay in their homes. The property values of
surrounding homes would not be as impacted by foreclosures. The banks and other lenders would have a secondary
market for their non-performing mortgages. State and local governments would be relieved of the pain of seeing
residents kicked out of their houses and rentals. (A lot of rentals are homes now in foreclosure with renters standing
in the doorways). The housing market—and ultimately the economy—would not be pummeled by the tidal wave of
foreclosures.
Berger is a principal of XRoads Solutions Group, which has offices in Santa Ana and New York. A workout consultant
during the real estate recession of the early 1990s, he has experience advising distressed homebuilding and other
real estate companies.