THE SUB-PRIME DILEMMA

Assume we want to encourage homeownership. Assume further we implicitly subsidize the banking industry in a variety of ways. Thus, when borrowers and lenders are in MAJOR trouble, the suffering can multiply throughout society.

The recent bubble in real estate included some agressive claims made by mortgage brokers to unsophisticated buyers. These claims had the effect of stampeding first time homeowners into signing loan instruments providing for a variety of interest adjustment schemes with the related effect on borrowers' monthly payments.

It is a fact that property encumbered by 100% debt has a nominal owner in title while the actual (economic) owner is the lender. Ignoring tax reasons, the only reason for any buyer to make loan payments in excess of rental value is his expectation of future appreciation. When the market turns down and that expectation ends, the result is abandonment, default and foreclosure. Two key assumptions govern what follows. One is that the loss of faith in the market will be sufficiently widespread to motivate lenders to share in the difficulties by making concessions. The other is that transaction costs (occupant displacement, recovery of possession, renovation, marketing, re-underwriting a loan for a new owner) are very high. We face the potential disenfranchisement of a large number of low to moderate income people. It is demoralizing to be briefly an owner only to be returned to being renters. The purpose of this monograph is to try to find the balance between the needed concession and the transaction cost so that one cancels the other. Included with that comes the answer to the question of how long it takes for the occupant to restore his ownership position.

Consider a contractual arrangement that shares rights in future appreciation between an occupant and investor who may or may not be the lender. Typical examples used in the past are lease-option agreements, participation loans and shared ownership arrangements. The present situation differs in that the occupant is a former owner, having lost or about to lose his interest in foreclosure. With the lender in title but the former borrower in possession is there any way a third party investor can provide benefits to both the occupant and the lender? The benfit sought is liquidity for the lender and household stability for the occupant. In the next step you can model this process interactively with numbers that fit your circumstances.