The Plight of First-time Homebuyers

Bloomberg Magazine covers the plight of first-time home buyers in its August 12th article, “First-Time Buyers Shut Out of Expanding U.S. Home Supply”.

“I definitely sacrificed in terms of location,” said Nielsen-Dembe, a 33 year old mother of two who lives with her husband and bought a house in west Denver last April for $184,500. “I had to cross streets that were not ideal in order to get a house.”

With the abundance of all-cash buyers (42% nationwide in November 2013), strong investor appetite for affordable buy-to-rent properties, and the reluctance of underwater homeowners to sell (19% of all homeowners are in negative equity, with those of inexpensive homes three times more likely), the inventory for first-time homebuyers is crunched.

The inventory of U.S. homes for sale in the bottom third of the market (those below $198,000 and most sought after by first-time homeowners) fell 17 percent in June compared with a year earlier, according to a Redfin analysis of 31 large U.S. metropolitan areas. In Denver, this number was closer to 51% and in Austin, 34%.

Depressed inventory means that first-time homebuyers, already faced with tighter lending conditions, slow wage growth and lower credit scores, are increasingly shifting their home search to less attractive but more affordable neighborhoods often with higher crime rates, more incidents of violence, less desirable school districts, higher rates of foreclosure and fewer available jobs.

Since a neighborhood’s quality directly affects a home’s value, by sacrificing neighborhood for affordability, these first-time homeowners are also at a higher risk of losing value from the purchase of their home.

At PartnerOwn, we believe that homeowners should not be punished for where or when they decide to buy a home due to macroeconomic circumstances beyond their control. That’s why the Shared Responsibility Mortgage (SRM) automatically decreases homeowners’ monthly payments when their local home values drop. This price relief is built-in to the mortgage and does not require additional paperwork, phone calls or visits to the lender. In return for this benefit, the homeowner will share a small portion of the home’s appreciation (10%) upon sale with her lender. If the home does not appreciate in value, the lender receives no compensation.

By removing the uncertainty of paying more when local home prices decrease, PartnerOwn gives homeowners the freedom and peace of mind to purchase a home in a location and at a time that works best with their personal situation. Finding the right home is stressful, but we want to make sure that paying for it isn’t.

Shared Responsibility Mortgage

Shared Responsibility MortgagePartnerOwn’s work to improve mortgage finance is based on the research of economists Amir Sufi and Atif Mian, who propose the Shared Responsibility Mortgage (SRM) in their new book, House of Debt.  Their research into the Great Recession has made them the experts on its underlying causes, and their down-to-earth approach makes their book (and blog) a great read.  With this post, we want to introduce a few key concepts that draw on their work and explain the basic need for their proposal, the SRM.

Buying a home is more than buying rooms, a roof, a garage and a backyard.  It is buying into a neighborhood, a school district, and a commute to work.  A homeowner may control the house but not the neighborhood, the local businesses, or the school district.  Things change.  And these changes can hurt or help the value of the home.  If a nearby employer leaves the neighborhood for example, the home and its neighborhood may be less desirable since there are fewer jobs.

In addition to neighborhood risk, homeowners face market risk.  To buy homes, people use a lot of debt (90% of the value of the home for the typical buyer).  This is dependent on someone or some institution being able to make those loans.  So, starting in 2007, when the housing market began to go through a major correction and banks needed to be bailed out by the government, lending became less common which hurt home values.  People who were using the value of their home to get by started to consume less because they lost wealth.  This in turn hurt businesses and caused layoffs.  More people defaulted on their debt.  And overall, nationwide home values dropped over 30% in the course of a single year.

Because most homeowners use debt to purchase their homes, they are not protected if the neighborhood or the housing market changes.  The debt is constant.  These risks would make any investor cringe, especially since most mortgages are thirty years in length, ample time for the risk to be realized.  However, as mortgages have grown in length and require lower down payments, our government and banks still encourage borrowers to take on this greater risk and hope things work out.

This is why PartnerOwn is working to implement Sufi and Mian’s SRM.  Its most fundamental innovation is to tie the homeowner’s debt to the local housing market.  If home prices go down because of the neighborhood and market risk, the homeowner’s monthly payment will go down as well.  So, if the neighborhood decreases by 10% in value, a homeowner’s monthly payments will also decrease by 10%.  Effectively, the risk is shared with the lender, who can better handle the risk through modern diversification strategies.  This will protect the homeowner who has a significant portion of her wealth tied up in her home and provide relief in case the local neighborhood or housing market experiences a downturn.  Additionally, the homeowner never has to make up those decreased payments. It is simply part of the original agreement between the homeowner and the lender.

To pay for this protection, the homeowner would pay a small portion of the increase in the home’s value at sale.  So, if a homeowner bought a home for $100,000 and sold it for $110,000, the homeowner would pay 5% of the $10,000 made, which is $500.  The homeowner essentially borrows from the future increase in the home’s value to receive protection.  If the home does not increase in value, no payment is made.  Sufi and Mian argue that this simple innovation would have helped limit the severity of the most recent crisis.

PartnerOwn is currently working to implement a version of Sufi and Mian’s SRM.  We have identified a first investor, a local housing agency in Chicago, to help us originate SRMs for its clients.  They believe the SRM to be a more responsible form of lending for their clients and a way to invest in their local neighborhood.  We look forward to keeping you updated about our progress.  And if you have any questions about the SRM, please do not hesitate to contact us along the way.

Team PartnerOwn
team@partnerown.com

Need to Bridge Between Owning and Renting

By Dylan Hall, PartnerOwn Team Member

The Housing Partnership Network released a white paper in March about opportunities for reform in the housing market.  In the report, they cite the need for new models for “Homebuyer Readiness and Sustainable Ownership.”  They cite the damage to credit scores and the tightening of lending standards in response to the most recent economic downturn as reasons why.

One need they address are “Hybrid Tenure Products to Bridge Between Owning and Renting.”

“Policy efforts should focus on the challenge of creating new pathways to homeownership for young families and low-income households in this new market environment.  One particularly important consideration is the embrace of hybrid housing tenure models that help families move between renting and owning their homes.  Hybrid tenure products include lease purchase, shared equity, shared appreciation, community land trusts and earned homeownership approaches.  Many communities and providers around the country have experimented successfully with these models but we have so far failed to make these interventions widely available.”

Purchasing a Home: Prospective homeowner considerations

By Dylan Hall, PartnerOwn Team Member

These past two weeks, PartnerOwn has continued researching how homeowners pay for housing and the issues that they come across.   Needing to speak to a lot of homeowners, we decided to speak with people who speak with a lot of homeowners.   The United States Department of Housing and Urban Development  has certified counselors who provide free counseling services to prospective and current homeowners.  We met with counselors throughout the city of Chicago.

Our takeaways from the interviews are that there are populations who could benefit from a “high touch” partnership in owning a home that deals with both financial and maintenance concerns.  Also, providing financing alternatives for people who meet income thresholds but have low credit scores from a lack of credit history or use can be valuable as well.  Finally, creating a network of homeowners can be a valuable way to address issues that are common to all, such as property tax changes.

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All housing counselors offer workshops in purchasing a home.  They described the problems their clients face in the following order:

1) Education – understanding what it means to own a home, setting realistic affordability expectations, establishing a budget

2) Credit scores – need to build up a better credit history or cover past due bills.

3) Down payment/Earnest money – having saved enough money to purchase

4) Employment history – need to establish longer employment history even though they have sufficient income

Most of these agencies tend to work with low middle-income and immigrant populations.  Yet, there is variation within these communities.  For example, in Chinatown, foreclosures are fairly rare and most work is done around translation and understanding the home purchase process.  People use a strong family support network to help in meeting their obligations, prefer to take out 15 year mortgages due to lower interest payments and prepay as soon as possible.  They view housing as an investment, one that is the most trustworthy.  As soon as they pay off their first house, they look for their second to begin renting out.

Other immigrant populations and lower middle-income have a different perception.  The consumption aspects of housing play a bigger role and the 30 year mortgages are more common.  Month to month affordability is a bigger concern, and the American Dream of homeownership, of being in control and creating their own living space, and passing down something to their children motivates the purchase.

Lower middle-income populations may need budget counseling and to acquire a better understanding of the costs associated with homeownership.  Most counselors cite a need of consistency, of not just getting someone into the home but working with them on their budget and the other aspects of homeownership once they move into their house.  As a result, a more “high touch” service that provides financial and maintenance consultation could be valuable instead of letting people go on their own once they receive their mortgage.

Immigrant populations are also subject to realities of a lack of history in the United States.  While monthly income may be high, their shorter employment and credit history create difficulty in accessing mortgage financing.  Counselors can usually recommend processes to build up their credit score.  Employment history is more difficult to establish, and can be a problem even if someone has a good paying, stable job currently.  Thus, providing financing options for people who find themselves in this situation is important.

Downpayment assistance programs are fairly common and require the completion of HUD counseling.  This can reduce the downpayment burdens for some.  These may not be permanent though going forward, as many were created from the government settlements against mortgage providers or make use of taxpayer funding.

Property taxes can be a hidden aspect of homeownership for many in the Chicagoland area.  Recently, property taxes  increased, and most homeowners were caught off guard by their increase in monthly payments, especially since these taxes are built in as payments.  Particularly in Chinatown, people sought out advice on getting their home reappraised.

A homeownership partnership should be able to provide information on all costs related to homeownership and act as an adviser for homeowners.  Also, homeowners frequently find themselves subject to considerations like these, and as independent homeowners, may not be able to tap into any sort of collective voice if their local housing counseling agency is not as strong as those that we were able to meet with.  There could be value in creating a network of homeowners due to the complexity of homeownership in America.

Homeowner Need for Alternative Financing

By Dylan Hall, PartnerOwn Team Member

PartnerOwn’s mission to provide alternative home financing should be motivated by an understanding of the problems, preferences and needs of homeowners and investors.  After a review of market research related to the homeownership decision, we believe that we need to create a financial and legal relationship that provides people with the benefits associated with homeownership but limits their dependency on large, long term debt commitments.

Below is a summary narrative about the homeownership decision followed by a collection of motivating statistics that have been drawn from a number of nationwide surveys and research articles.

The Housing Decision: A Narrative

Most Americans prefer to own a home as opposed to renting.  Homeownership is perceived to be superior to renting for considerations such as privacy, community engagement, safety, school selection and control of their living space.

Homeownership is also seen as a good investment, even though it is secondary in importance for most owners compared to the housing attributes described above.  In spite of the volatility of house prices over the past ten years, people believe housing is a great way to build wealth and is a safer investment than stocks, bonds, mutual funds or IRA/401K.  A majority also believe it has the most potential for return compared to stocks, bonds, mutual funds or IRA/401K.  Thus, homeownership has a dual, likely contradictory, perception of being a safe investment and having the most potential for return.

Most surveyed do not believe that they have enough personal savings built up.  Surprisingly, given their lack of savings and the fallout from the most recent recession, a majority of respondents are not very stressed about their ability to make payment on their debts, and are not very concerned about losing their job in the next 12 months.  Most feel comfortable about their ability to pay for their current monthly expenses.  This is notable as housing expenses have become a bigger portion of total expenses recently.  Housing represents the majority of wealth for most low-to-moderate income households

When it comes to purchasing a home, the median perception is that a 10% down payment should be sufficient to obtain a mortgage.  A significant majority of survey respondents believe that someone should continue paying their mortgage even if the mortgage is more expensive than the house or the person paying the mortgage is in financial distress.  Currently, a quarter of homes are worth less than their outstanding mortgage (in negative equity / underwater).  In some major metropolitan areas like Chicago, this number is closer to half.

Since 2007, renting has become more common.  As a result, rental prices have grown and the availability of rental units has decreased in many metropolitan areas.  Of those renters not renting to save money for homeownership, they cite affordability, flexibility and less stress in guiding their decisions to rent.

Generation Y (representing people born between the 1980s and 2000s) is often portrayed as being less interested on homeownership because they are less likely to own homes or have a mortgage.  However, when asked about their preferences, a significant majority want to own a home in the future and cite the same benefits of homeownership described above.  We do know that Generation Ys are  more worried and feel more constrained by their current debt levels.  As a result, they may not desire to incur additional debt to finance a home.  Meanwhile, baby boomers, confident in their ability to cover expenses and maintain employment, do not believe that they have enough savings.  This may stem from looking ahead to retirement.

Our conclusion from this initial market research is that people prefer ownership for a greater sense of control.  From an economic perspective, it is disconcerting that those surveyed may not have not realistic expectations when it comes to the investment aspects of housing, especially when we consider that a majority of people believe it is ok to use credit to finance 90% of the purchase.  In effect, these are risky bets that we encourage homeowners to take on a daily basis, even though they tend to view housing less as an investment and more as a consumption good.

Owning vs. Renting: Statistics

65.1% of households are owner occupied, while 34.9% are renter occupied (US Census, 2010)

65% of households would buy as opposed to rent (31%) if they were going to move (Fannie Mae, 2013)

The most common reason (28%) renters cite for renting is to become financially ready to own (Fannie Mae, 2013)

61% of households believe they are more likely to buy at some point in the future as opposed to rent (31%).  (Fannie Mae, 2013)

71% of households believe the number of homeowners will increase or stay the same (Fannie Mae, 2013)

The Role of Debt: Statistics

The median home buyer uses a mortgage loan to finance $91 of out of every $100 spent to purchase a house (NAR, 2013)

92% of homebuyers have mortgages that are fixed rate, meaning that they pay the same interest rate on the mortgage loan (NAR, 2013).

76% of mortgages have length of 30 years or longer (Fuster and Vickery, 2013).

Median survey respondent believed 10% is sufficient for a downpayment for a home (Fannie Mae, 2013).

86% surveyed believe that it’s not ok for a person to stop paying the mortgage on the home if the mortgage is worth less than what they owe on it. (Fannie Mae, 2013).

77% surveyed believe that if a person is facing financial distress, it is not ok for them to stop paying the mortgage. (Fannie Mae, 2013).

Homeowners Tend to be More Consumption Focused: Statistics

65% would prefer to buy a home because of the broader security and lifestyle benefits of homeownership,such as providing a good and secure place for your family and children, where you have the control to make renovations and updates if you want, and in a place that’s in a community and location that you prefer (Fannie Mae, 2013)

35% would prefer to buy a home because the financial benefits of homeownership,such as its value as an investment (especially compared to paying rent), its value as a way to build up wealth for retirement or to pass on to your family, and the tax benefit (Fannie Mae, 2013)

Housing as an Investment: Statistics

To achieve building up wealth, households believe they are better off owning (82%) as opposed to renting (13%). (Fannie Mae, 2013)

84% of respondents believe owning makes more sense because you’re protected against rent increases and owning is a good investment over the long term.  13% believe renting makes more sense because it protects you against house price declines and is actually a better deal than owning. (Fannie Mae, 2013)

66% surveyed believe buying a home is safe investment compared to investing in bonds (48%), stocks (16%), mutual fund (47%), or IRA/401k (65%).  (Fannie Mae, 2013)

57% surveyed believe buying has a lot of potential compared to investing in bonds (25%), stocks (52%), mutual fund (34%), or IRA/401K (50%).  (Fannie Mae, 2013)

Lower income homeowners have a majority of their wealth tied into home equity

Housing as Consumption: Statistics

87% believe that to to achieve having a good place for your family or to raise your children, you are better off owning as opposed to renting (5%). (Fannie Mae, 2013)

81% believe that to feel engaged in their community, they are better off owning as opposed to renting (9%). (Fannie Mae, 2013)

83% believe that to achieve living in a place where they and their families they are better off owning as opposed to renting (7%). (Fannie Mae, 2013)

93% believe that to achieve having control over their living space, they are better off owning as opposed to renting (5%). (Fannie Mae, 2013)

90% believe that to achieve having a sense of privacy and security, they are better off owning than renting (6%). (Fannie Mae, 2013)

Growth in Rentals: Statistics

Household Fiscal Health: Statistics

68% surveyed said that they are not very stressed about their ability to make payments on their debt. (Fannie Mae, 2013)

55% surveyed said that they do not have sufficient savings. (Fannie Mae, 2013)

73% surveyed said that their current income is sufficient for the expenses that they have. (Fannie Mae, 2013)

77% surveyed said that they are not very concerned about losing their job in the next 12 months. (Fannie Mae, 2013)

35% said that their current household expenses have increased significantly over the past 12 months. (Fannie Mae, 2013)

50% believe to achieve having less stress, they are better off owning as opposed to renting (44%). (Fannie Mae, 2013)

A significant majority (85%) of homeowners said that the mortgage rate offered were at least somewhat important in their decision to own.  A majority (58%) said that mortgage rate offered was very important. (Fannie Mae, 2013)

25% of home are still in negative equity (Zillow, 2013).

Mortgage delinquency rates look to be steadying at rates that are above pre-2007 levels.

Both renters and homeowners have increased the proportion of their income being spent on housing.

Most lower income households have a majority of their wealth concentrated in their homes.

Generational Concerns: Statistics

More than half (54%) of millennials say debt is their “biggest financial concern currently,” according to a survey focused on Gen-Y attitudes toward savings and retirement. 42% say their debt is “overwhelming,” twice the rate of boomers who were also surveyed for comparison.  (Wells Fargo, 2013)

88% of Generation Y respondents said that in the future they are likely to “always own.” (Fannie Mae, 2013)

88% of Generation Y respondents said that they plan to  purchase a home in 3 years or more. (Fannie Mae, 2013)

63% of Baby Boomers believe they do not have sufficient savings (Fannie Mae, 2013)