Coyote Blog

This is pretty incredible.  It's like the last two years didn't even happen.

A national consumer coalition plans to file a series of landmark federal fair housing complaints beginning Dec. 6, challenging a widespread practice by banks and mortgage lenders: requiring borrowers who apply for FHA loans to have FICO credit scores well above the 580 minimum set by the FHA for qualified applicants with 3.5 percent down payments....

Because FHA insures lenders against losses from serious delinquency or foreclosure, there is "no legitimate business justification" for rejecting applicants solely on the basis of FICO scores that are acceptable to FHA, the complaints contend.

Subprime mortgage customers are generally defined as those under a credit score of 620.  I am surprised that anyone in this environment is offering 3.5% down to any buyer  (though here is the government actually advertising the fact).  But giving 3.5% down to subprime borrowers?

Even with the FHA guarantee, banks have learned that the cost of default for them is not zero.  Only someone who has been in a cave for two years could somehow ascribe this action to discrimination rather than an obvious reaction to the ongoing mortgage crisis.  The government is still out acting irresponsibly, and when private institutions (who actually have to live with the cost of their decisions) try to behave like adults, they get hauled into court.

By the way, this sure does seem to bolster the argument that community banking standards and the pressure from the government and community groups to drop lending standards played a large role in the housing crisis.  If we are seeing this kind of pressure even after the housing disaster, what kind of pressure was at work, say, in 2005?

Via Mark Calabria, who has more

Update: Flashback

"In 1995, HUD announced a National Homeownership Strategy built upon the liberalization of underwriting standards nationally. It entered into a partnership with most of the private mortgage industry, announcing that "Lending institutions, secondary market investors, mortgage insurers, and other members of the partnership [including Countrywide] should work collaboratively to reduce homebuyer downpayment requirements."

The upshot? In 1990, one in 200 home purchase loans (all government insured) had a down payment of less than or equal to 3%. By 2006 an estimated 30% of all home buyers put no money down.

"The financial crisis was triggered by a reckless departure from tried and true, common-sense loan underwriting practices," Sheila Bair, chair of the Federal Deposit Insurance Corporation, noted this June. One needs to look no further than HUD's affordable housing policies for the source of this "reckless departure." If the mortgage finance industry hadn't been forced to abandon traditional underwriting standards on behalf of an affordable housing policy, the mortgage meltdown and taxpayer bailouts would not have occurred."

WTF is this designed to accomplish, except to give Obama something to crow about in one or two news cycles while doubling down on the same kind of practices that got the housing market and banks into the current mess?  This reminds me so much of the final days of the government in Atlas Shrugged.  Fannie and Freddie are bankrupt?  Well, lets do the same thing to the FHA, just to save our sorry government jobs for a few weeks longer.

The Federal Housing Administration is heading toward a taxpayer bailout, yet the president's latest mortgage modification plan would further increase the agency's exposure to risky mortgages. Mark Calabria calls it a "Backdoor Bank Bailout."The administration's plan would encourage borrowers who owe more than their house is worth to refinance into FHA-insured mortgages. Therefore, the risk of a future foreclosure on these mortgages would fall to the government and taxpayers instead of private lenders.

A recent study from economists at New York University found that the FHA is underestimating its risk exposure. One of the problems is that the FHA isn't properly accounting for the risk to underwater FHA mortgages that have been refinanced into new FHA mortgages. So it's hard to see how the president's plan to refinance private underwater mortgages into FHA mortgages won't further exacerbate the situation.

Steve Chapman via Ilya Somin:

Watching Washington policymakers in action, I sometimes think they make mistakes because of unrealistic goals, flawed thinking, blind obedience to party, or dubious information. And sometimes I think they make mistakes because they are"”how to put this?"”clinically insane.

There is no other way to explain what is going on at the Federal Housing Administration, which provides federal guarantees for home mortgages. Given the collapse in real estate prices, the weak economy, and the epidemic of foreclosures, banks are acting with more caution than before. They now commonly require home buyers to make down payments of 20 percent to qualify for a loan. But the FHA often requires only 3.5 percent.

That's the equivalent of playing pool with a guy named Snake, and it's had two predictable effects. The first is that the agency is insuring about four times as many home loans as it did just three years ago. The other is that the number of FHA-approved borrowers who are not repaying their loans is climbing. Since last year, the default rate has jumped by 76 percent.

Another likely consequence looms: you and I eating the losses. A former executive of mortgage giant Fannie Mae told a congressional subcommittee that the FHA "appears destined for a taxpayer bailout in the next 24 to 36 months." Commissioner David Stevens had to assure the subcommittee that it would not need help"”well, unless there is a "catastrophic home price decline." But who says there won't be? It's not as though anyone at the FHA foresaw the housing bubble or the housing bust. Yet now it feels confident betting its $30 billion cash reserve that prices won't fall.

Somin comments:

Unlike Chapman, I don't think the policymakers are "insane." They are responding rationally to perverse incentives. If another mortgage crisis occurs, they hope to shift the blame to a supposedly insufficiently regulated private sector "“ which is more or less how many of them managed to escape blame the last time around. The public did punish the Republican Party in the 2008 presidential election. But most of the members of Congress and federal bureaucrats who supported the GSEs got off scott-free. Moreover, the full negative effects of risky government-backed lending may not become evident for years to come "“ perhaps at a time when some other administration and Congress will be in office. In the meantime, the administration, the FHA, and key members of Congress can reap the political benefits of getting support from grateful borrowers, real estate developers, and other interest groups that benefit from easy credit.

I am a little behind on this, but Megan McArdle had this from Joe Wiesentahl, on the importance of loan down payments to prevent fraud and foreclosure:

The author, Michael Richardson, owned a Colorado mortgage company that was busted by HUD for processing too much fraudulent paperwork.  This caused him to discover that unbeknownst to him his employees were (on their own) engaging in mortgage fraud, prompting him to write this book and try to warn the industry.

This alone is interesting -- that even on the small-time level, there was an information problem (bosses not knowing what the underlings were doing) -- and the book is rich with details about the nuts and bolts of mortgage fraud.

But beyond that, one point he makes clear -- and remember, this is before 2005, so before the crash and before conservatives blamed government intervention in the housing market for the crash -- is that the FHA's subsidization of $0-down loans made it all possible.

If you make someone pay 10% or 20% of a house's cost upfront, then there's no way you can alter the paperwork enough to make an ineligible buyer buy a house for an inflated price. But once you drop that requirement, everything goes. You can sell any house to any buyer for any price as long as you put in the effort to falsify documents and go through the cumbersome legwork.

The AntiPlanner has an update on the New London, CT development that spawned the notorious Kelo case.  In short, they tore Ms. Kelo's house down against her will, and then the whole development deal fell through.  The city now has a nice vacant lot.

The homes of Susette Kelo and her neighbors have all been torn down or removed. But, except for the remodeling of one government building into another government building, virtually no new development had taken place in the Fort Trumbull district by May, 2008.

Having spent at least $78 million on the Fort Trumbull project, the city had awarded development rights to a company named Corcoran Jennison, which planned to build a hotel, an office complex, and more than 100 upscale housing units. The developer had until November, 2007, to obtain financing.

When that deadline lapsed, it received an extension to May 29, 2008. In desperation, the developer sought an FHA loan of $11.5 million. When that didn't work and May 29 came and went, New London revoked the agreement.

Maxed Out Mamma tells us that Fannie Mae may already have huge subprime exposure (emphasis added):

Maybe most voters believe
that FNMA and FHA are just in the conservative loan business.
HAHAHAHAHAHAHAHA. Certainly no "trained journalist" is going to ask any
questions about this topic.

Both Fannie and FHA will go to DTIs of over 60% in some cases. Especially refis. Try this thread on FHA.
If only I had saved down the 100 odd links or so I've run into over the
last year about how brokers were getting loans that the subprime
companies refused (who have since defaulted) through under FNMA!!! The
reason they did it as a last resort was only because FNMA paid less for
the loan. FNMA is already going to run into huge problems because of
the slopover into their portfolio in the interim between most of the
subprime lenders going down and FNMA's meaningful tightening of lending
standards. So FNMA already faces years of worsening financial trouble
without any new risks. Why does OFHEO oppose this? Hmmmm?

You can get information on Fannie's loan types at efanniemae.com. Believe me, they do high LTV, hybrids, 40 year etc. This page will show you information about Fannie's ARM products. Take a look. Take a good look. You want a 100% interest-only? They got it!! In fact, they'll take downpayment assistance, and go up to 105% with special programs. Chortle! Ya want interest-only ARM hybrids with DAP? Sure. BRING IT ON, cries Fannie. Simultaneous seconds? Sure 'nuff!!! (By the way, this is the escape from the refusal of the MI companies to play.)

The
bottom line is that every risk afflicting Alt-A lenders in high-cost
areas can afflict Fannie and really has. It's just that no one is
paying attention.

People have been defaulting on mortgages for all of recorded history.  In Roman times, such a default could well result in the mortgage-holder getting sold into slavery, so things have improved a bit.  But seriously, people default on their mortgages all the time.  So what makes those currently in default more deserving of taxpayer aid than those before them or after them?  I mean, other than the fact that the press is paying attention to these particular defaults?  A similar question was reasonably asked of 9/11 victims who scored government compensation when victims before or after of other transportation accidents and building fires have not been so rewarded.

I challenge any politician to answer this question with an answer other than "well, these people are in the media spotlight right now and as a politician, I want to be in the spotlight with them."

Update: More analysis here, including the bright side of the burst housing bubble:

Countrywide wants to be
able to take its loans that the market won't accept and refi them under
FHA or FNMA. That's what this is all about. Don't forget that.

It's
not about homeownership. Let's look at the latest 25th percentile
(starter homes) list prices for a range of CA cities, compared to the
price in January 2007:

LA: $365,000/ $429,920
OC: $414,900/ $499,000
Riverside: $259,900/ $335,000
Sacramento: $229,900/ $316,477
San Diego: $325,000/ $392,279
San Francisco: $380,000/ $468,376
San Jose: $489,950/ $580,589
Santa Cruz: $489,000/ $577,400

What
you see above is great news for all the people who would like to buy
homes without going bankrupt a few years down the line. It's VERY bad
news for banks and financial companies that made the original bad loans
without bothering to check whether the borrowers could pay the danged
loan. You figure out who this country should reward - responsible
aspiring home owners or stupid banks.

Per the WSJ($):

The Internal Revenue Service dealt a serious blow to
organizations that provide down-payment assistance to home buyers in a
ruling that could curtail the ability of lower-income U.S. citizens to
purchase homes.

In the past eight years or so, a number of large
nonprofit organizations -- including Nehemiah Corp. of America, of
Sacramento, Calif., and AmeriDream Inc., of Gaithersburg, Md. -- have
doled out hundreds of millions of dollars of cash down-payment
assistance to mostly low- and moderate-income home buyers. According to
industry estimates, as many as 625,000 people were assisted by such
groups with their down payments between 2000-05. The programs have been
widely viewed as helping to increase the nation's homeownership rates,
which rose to 69% last year from 67% in 1999.

Why?  A lot of the tax code is skewed to promote home ownership.  So why is the IRS penalizing a program that seems to make a lot of sense?

In its ruling yesterday, the IRS said these aid groups funded largely
by home builders and other sellers no longer qualify for tax-exempt
status because the benefits of the programs are going to sellers and
profit-making entities. In its statement, the IRS said it has found
"that organizations claiming to be charities are being used to funnel
down-payment assistance from sellers to buyers through self-serving,
circular-financing arrangements."

Uh-oh.  Its those nasty profit making ventures again.  What's going on here?  Basically a home-builder gives the down payment for a home to a charity which in turn gives it to a buyer who in turn gives it back to the home-builder.  Let's say the down payment is 10%.  This arrangement acts as if the home-builder is giving the buyer a 10% discount, just circuitously.

So why is it so circuitous?  Why don't they just give the discount directly?  Is it some kind of tax dodge?  The answer to the latter is probably not.  From a corporate tax standpoint, the current circuitous charity method produces a 10% charitable donation on a 100% price sale.  The discount approach just produces a 90% price sale.  Tax wise, these are equivalent.  So why doesn't the home-builder, if it wants to be generous to low-income buyers, just give them the discount?

The answer is, because the government does not allow it! 

The majority of home buyers affected by this ruling are those who
qualify for mortgages insured by the Federal Housing Administration, a
federal agency responsible for aiding first-time and lower-income home
buyers. Under FHA guidelines, home buyers seeking mortgages must have
their own funds to use for a down payment or they can get assistance
from a relative, employer or a charity. They can't get assistance
directly from the seller.

The only argument against this practice made by the IRS is that the price of the house is increase by a fee added in the process by the charity that facilitates the transaction.  But this is one of those classic government regulatory jobs where the result that instead of getting a home with a bit of extra fee in the transaction, people will instead not be able to get a home at all.  No one points to anyone being hurt, and in fact the article points out that 35% of FHA loans depend on these charities for down payments.  (There is also some hint that this process may increase default rates, but the only evidence is that default rates for this type of transaction are up --  but default rates on mortgages are up across the board right now.)

And, by the way, what is wrong with charity by a business that, in addition to helping out a charitable cause, also helps out its business?  For example, my company gives coupons for free one-day jetski rentals at Lake Havasu all the time to charity auctions in our area.  We do it to support charity, but also because it provides us some free advertising and often people who win the certificate also show up with friends who become paying customers.  So what?  Is my charity tainted because I have created a win-win?