Foreclosure Moratorium: A Very Bad Mistake

October 6, 2010

by Mike Simonsen

26 comments

The dominoes are falling, folks, and they’re falling in the wrong direction.

Today the Texas AG moves to suspend all foreclosures to save the innocent homeowners from the big bad banks.  (See Ken Brand for an FAQ on Texas )

Earlier in the week, JP Morgan Chase suspended 56,000 Florida foreclosures to investigate potential paperwork legality issues. Delaware, Maryland, Massachusetts are all rumbling about the BBBs.  More are sure to follow.

This is a bad thing. A very bad thing.

Here’s what’s going on:

  1. People aren’t paying their mortgages. They’re underwater, with onerous payments, may be unemployed, or some combination of the above.
  2. Like it or not, these situations need to be resolved. Resolution is either foreclosure, short sale, loan modification, or get current on your payments. Most likely one of the first two. (Just freezing the process is NOT a solution. Tomorrow morning these people are still in trouble. You won’t be sober in the morning.)
  3. Twenty-three states (including Florida) have foreclosure laws that require a court case to foreclose on a property. These are the so-called “judicial” states. These laws are designed to “protect” homeowners. In other states, the foreclosure process is much more speedy.  The people with legitimate cash to buy homes are much more likely to even try in states where they’re less likely to get tied up in court for years.

As a result, the unintended consequence of heavy foreclosure laws is slower recovery.

Scott posted this image last week illustrating the situation. Looking purely at the inventory trends this year in LA, where it is much easier for the properties to foreclose, clear out, find buyers, investors, and start fresh – vs. Florida where the foreclosure laws prevent that and the homes just sit, unpaid for, unkept, stagnant.

LA Miami housing inventory trends

Active Inventory trends in Miami and Los Angeles

Active inventory in LA is rising much more rapidly than in Miami. In the short term this creates downward price pressure in LA and artificially keeps Florida prices higher than they would be if the shadow inventory were allowed on to the market. Politically, Florida is opting to subsidize/favor the voters with bad loans vs. the ones who may be in the market to buy a home. California is not making that trade. (Not yet anyway. Don’t ever count out California’s political pandering opportunists.) Next year LA is much less distorted by shadow inventory and recovery resumes with the economy. Florida is just left with a bunch of rapidly molding drywall.

Alas, the only resolution is to get the upside-down, delinquent loans closed. Get the properties off the books and purchased by people who can afford them. It’s sad, it’s tragic for the people being foreclosed on. It’s an opportunity for the people who happen to be well financed currently, and for the realtors who help them. And it’s inevitable.

The political/legal hurdles to quick resolution are the basic reason we expect the housing crisis to be a decade-long problem and do not foresee a tsunami of properties coming on the market. It’s a looong trickle. We’re at a crossroads. The country could choose the 1980′s S&L RTC process and get the process done, or we could choose the 1990′s Japan banks process and let it fester for years. Recent news says we’re marching down the wrong path in the name of saving the people.

“We’re from the government and we’re here to help.”

[update] Housingwire illustrates more unintended consequences in the mortgage market.

{ 19 comments }

Kathy Howe October 6, 2010 at 12:02 pm

Good post. Like it or not, the sooner distressed properties are off the market, the sooner the recovery moves to stabalize and absorb inventories.

Michael October 6, 2010 at 12:02 pm

So the only solution is to kick people out of their homes, even if they're in a temporary cash-crunch because companies are predominantly hiring only low-cost, temporary employees and their original employer, while showing record profits, hasn't hired back any of their laid off staff?
Instead of reworking payments, putting foreclosures on hold, adding the missed payments on the end of mortgages, it's better that all of those families are made homeless so they become a burden on the government, create a huge class of former middle class folks that are now homeless, with no health coverage, no education for their children, and income earners who are caught in a spiral of "no address, no phone, no job"?
Smart. I'm looking forward to see how you rephrase your opinion once you get and your spouse get laid off.

mike simonsen October 6, 2010 at 12:13 pm

Hi Michael – I think you misread the post. I never said the ONLY solution is to kick people out of their homes. There are options for people in temporary situations. As I mentioned, loan mods, short sales, etc. are indeed valid options. No one is saying don't do those.

Rather, I'm pointing out the unintended consequence of removing foreclosure as an option for resolving these situations.
Think about the moral hazard caused when an underwater, delinquent homeowner says, "I can try to renegotiate this loan for lower payments and STILL be $150,000 in the red. Or what's going to happen? If they can't foreclose, then nothing is going to happen. I will live in my house without paying anything." or walk away and let someone else deal with it.

Foreclosure, while scary and horrible for the people going through it, is a vital part of the resolution. Like it or not, it has to happen – to some. A moratorium only delays the inevitable.

Anna October 11, 2010 at 8:59 pm

I am so glad that you have written this and are not apologizing for doing so. The foreclosure moratorium is certainly not the asnwer.

I have been waiting for an answer from Bank of America for 5 months in order to purchase a short sale. Our is the only offer, but they won't speak to us or give a clear answer to the seller/her lawyer/realtor. Will the short sale procedure also freeze short sales, or is there any hope left for us?

I have read that it is actually supposed to help short sales move along, now that banks cannot foreclose (something good better come out of this mess).

Your thoughts?

CCG October 9, 2010 at 2:50 pm

Or they could become (gasp) renters.

What a country this has become.

Rick October 6, 2010 at 1:50 pm

Texas is a non-judicial State. In Texas you do NOT go to court. Posted at the court house sold 21 days later at auction on the court house steps on the first Tuesday of the month. There are more steps involved but you get the idea. What the AG in Texas is looking at is if the banks had the right to sell the house at auction. Did the banks cross all the "T" and "I" or did they cut corners.

James October 7, 2010 at 7:59 am

I fail to see how an uptick in inventory in LA is any indication of an improving or clearing market. If there was an uptick in the rate of sales or price, we could all celebrate.

Further reductions in home values is not a good thing for banks. It increases the rate of new defaults and lowers the value of assets. A flood of REOs and a surge in supply is no in the interest of the industry. Smart banks are computing and optimizing the NPV of how quickly to sell off properties and at what price. While we would all like to see markets recover quickly, banks are more likely to hold out for a higher price where there is an expectation of quick recovery. Thus, banks will moderate the sell off of REOs.

Foreclosure is an important loss mitigation option for banks, and the cost of exercising that option also impacts the bottom line. I am not convinced, however, that this the key issue for recovering markets. It matters to banks, but the rest of the housing market could care less. Keeping REOs off the market is good for anyone else who has a house to sell. Increasing supply can only mean that all sellers are in a weaker position.

Christian Sterner October 7, 2010 at 9:11 am

@James,

I think where you and Mike are missing is that you are both stating the same supply issue, only you favor the slow trickle in an effort to maintain home values near term and Mike favors taking a pricing hit (via more inventory) near term for long term recovery.

Regardless of how you look at it, that inventory is going to hit the market, most likely with banks owning more risk than they wish to.

I don't see where Mike is making the argument that LA should celebrate more inventory. It's going to hurt them short term and he stated as much. Rather, and I have to side with Mike on this, it's better to recognize the brutal truth behind our economic reality and start chewing bullets so our kids can sit in a better spot 10-20 years from now.

My hope for people facing this issue is that we gain a better understanding of "living within our means," and I don't mean "hey…you're riding high with your current job and can afford the monthly payments." I mean that people should make long-term financial decisions with the worst case scenario in mind.

The other thing to note that that-while wealth is created and destroyed as an everyday occurrence-higher amounts of inventory (at lower costs), is not necessarily a bad thing for banks long term. Those that can afford to take advantage of the opportunity will and banks will still win via lending money, albeit with much more stringent guidelines in place.

Rowland Fellows October 8, 2010 at 3:31 am

Yesterday, one of my asset managers informed me that sales of REO’s for one bank are suspended until further notice. These are properties that have already been foreclosed…in my case, I have one property in escrow scheduled to close later this month!

John S. October 9, 2010 at 8:48 am

You don't have a clue. The moratoriums aren't being put in place to save homeowners, they're being put in place to ensure that the foreclosure process is done correctly. There's still a legal process that must be filed. The banks are not following this process. They are foreclosing on homes they don't own or can't prove they own. If you think the moratorium is a bad idea then apparently you're fine with the fraudulent loans being made, packaged, and sold to buyers in a process that is completely illegal. The only way to resolve this situation is make the banks repay the investors for the fraudulent loans they sold (at which point the banks would actually own the property) and then the banks can legally foreclose.

So, next time you go writing a post, get your facts straight or at least show you have an ounce of knowledge about the process (or that you at least care about the rule of law in this country).

Allison Ables October 9, 2010 at 3:59 pm

Banks are signing month long extensions on REO's we have under contract. I'm hoping this is some kind of election stunt and a very short term issue. It's hard to make a buck when we have willing and able buyers and can't even sell foreclosures.

John S. October 9, 2010 at 5:58 pm

It's not an election stunt, for once it's a show of actual law.

You can't sell foreclosures, because you don't even know who owns the house. Kinda important, don't you think? If there's one bedrock to this country, it's the right to own property. As soon as we stop caring about who owns what, then our country as we know it is gone.

Confused NY Realtor October 10, 2010 at 2:08 pm

I am an associate broker in Westchester County NY. Is it possible to look up the name of the bank that has taken the deed back to a property and find out what that banks position on this issue is? If I have a client that wants to close on something & hence buy a bank owned vs a short sale…. how do i know that the bank owned property is not going to be held up in Limbo forever now too??

Shoreview MN Homes October 10, 2010 at 9:39 pm

There are certainly many questions looming about how this hold-up on foreclosures will impact the real estate market nation-wide, and what it means for each of us realtors that are working with clients that are trying to buy foreclosed property. I'm not confident that there is a blanket answer to these questions, rather you need to consider each foreclosed property case-by-case. When in doubt, speak with the listing agent, and find out what bank owns the asset/property. You might be able to gain some knowledge on the status of that particular property, and make an informed decision from there.

Kara Wood October 11, 2010 at 3:13 pm

America is great because so many people want to do the right thing and contiue to pay their mortgages in spite of the fact that their properties are worth less than what they owe…stopping foreclosures is a slap in the face to those who continue to do the right thing because its the right thing…

Edgardo October 11, 2010 at 3:55 pm

I admire and respect all your opinions but in my position all things should be treated on a case to case basis without hurting the other sides. I mean, every individual has the right to be heard. Let's not be judgemental to our fellow citizen because they demand respect too on their own belief.

Jamey Prezzi October 14, 2010 at 6:24 am

It was finally feeling like the bright light was shining down on our market (Miami)… curious to see how this is going to play out.

Blaine MN Homes October 21, 2010 at 7:15 pm

Several of my current and past clients are calling me up here in Minneapolis about how this foreclosure selling freeze will affect foreclosures in our area. Several other realtors on my team are saying how their REO closings have been put on hold indefinitely. Nobody knows how this will affect our local market (especially going into winter time for us in Minnesota), but just from the small sample of comments above, we know that there are several dynamic viewpoints and possibe outcomes.

Homes The Villages July 9, 2012 at 11:13 am

A flood of REOs and a surge in supply is no in the interest of the industry. Smart banks are computing and optimizing the NPV of how quickly to sell off properties and at what price. While we would all like to see markets recover quickly, banks are more likely to hold out for a higher price where there is an expectation of quick recovery.

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