The New York Times has reported on the new Obama administration plan to pay homeowners, lenders, and mortgage servicing companies to effect short sales and walk away from homes to avoid letting them go into foreclosure. The argument is that selling will be better for the lenders than foreclosing, while also helping borrowers’ credit ratings.
However, it seems that the government is simply trying a new plan every few months to attempt to pay banks money to get them to reduce the foreclosure rate, without any thought as to how these schemes invite fraud and further distortion of the housing market. It is inconceivable that this latest plan could not turn out to be just as poor as every previous government solution.
The main problem with this plan is that the short sale negotiation process is almost completely controlled by the banks. Although the lenders are “compelled” by government to take a predetermined price for a property, it is the lenders themselves that determine the minimum that they will accept to sell a house short.
The process works like this: the bank contracts real estate agents to estimate the fair market value of a given property. This will determine the minimum price that the bank will accept from a short sale. If the borrowers find a buyer who offers that much or more, the bank must accept it. As well, the bank must give up any rights to sue for a deficiency judgment after foreclosure.
This invites corruption across the country, as the banks will use local real estate agents to determine home values. The question arises, will these be the same real estate agents that helped pump up the housing bubble in the first place in order to increase commissions on sales? Although they did not play the largest role in the bubble, real estate agents did help fuel the buying mania.
Also, it is impossible to get around the issue that estimating the value of a property is completely subjective. Even using comparable sales in an area is simply a subjective estimate based on a handful of other subjective estimates while filtering out other possible relevant subjective estimates. The banks will be using this information to determine the minimum sales price of a property.
The minimum price — as determined by the banks — will also be kept a secret from the homeowners, who may have their own valuation done but which may be vastly different than the lender’s estimate. This makes it nothing but a guessing game for the homeowners to come to the bank with an acceptable offer.
Furthermore, with the bank determining the value of the property on its own and keeping its estimation secret from the homeowners, it will be nearly impossible for the borrowers to know if the bank has received an acceptable minimum offer or not. What if the bank simply refuses an acceptable offer? The homeowners will simply be led to believe it did not meet the unilaterally-determined minimum.
Unfortunately, this latest plan will probably be as successful as all other previous government plans to stop foreclosures. Namely, it will be promoted as a possible benefit to hundreds of thousands or millions of homeowners, but looking back on it in six months or a year, it will prove to be a bad idea corrupted by fraud from top to bottom, as well as just one more distortion of a market badly in need of less government intervention.
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