What should the federal government do to address the inventory of foreclosed properties?
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With the homeownership rate continuing its downward slide, the demand for rental housing is strengthening. A weak economy, tighter mortgage underwriting standards, and the formation of new households by 78-millon Echo Boomers will combine to put upward pressure on rental housing. Converting a significant portion of the inventory of foreclosed homes to rental use could help meet the housing needs of thousands of American families (including those who have lost their homes to foreclosure) while reducing the excess supply of vacant homes that is weighing down the housing market.
According to a recent Federal Reserve paper, there were approximately 500,000 real estate owned (REO) homes for sale in the second quarter of 2011. Fannie Mae, Freddie Mac, and the FHA collectively own approximately half of this inventory, or 250,000 single-family REO homes. The other half is owned by “non-agency securitized pools,” commercial banks, and thrifts. Although difficult to estimate, the Federal Reserve predicts an additional one million REO properties could enter the market annually in 2012 and 2013.
The Fed paper contains some interesting facts about the locations of the REO properties. According to the Fed, most REO properties are in neighborhoods with median house values and incomes that approximate the median figures for the metropolitan area overall. In addition, the “vast majority” of the properties are located in neighborhoods with average commute times similar to the average for the entire metro area. So, while not all REO properties are good candidates for rental conversion, it appears that much of the foreclosed inventory is located in decent neighborhoods that are relatively accessible to jobs and employment opportunities.
Perhaps the quickest and most efficient way to transition the REO properties to rental units is through the “bulk sale” of these properties to third-party investors, who would in turn rent out the properties. This approach will move more properties more quickly off the REO rolls, and has the potential of providing immediate help to those seeking affordable rental housing while having a bigger impact on the housing market more generally.
Of course, a “bulk sale” program is not without its challenges, as explained by the Fed. For example, third-party investors may demand a “risk premium” and purchase only at discounted prices. These investors may also find it more difficult than owner-occupants to obtain debt financing. REO property holders, on the other hand, may have to absorb the costs of assembling the inventory for a bulk sale. And there’s a risk that REO properties converted to rental use will not be adequately maintained and managed without appropriate safeguards.
In addition, how can local authorities record the value of an individual REO property sold in a bulk sale (presumably at far less than “market value”) without damaging home values in the surrounding area?
These concerns will likely be addressed as the Administration completes its review of how best to dispose of the REO inventory held by Fannie, Freddie, and the FHA. It’s likely that an REO-to-rental “bulk sale” initiative, perhaps designed as an experimental program, will be a key part of the Administration’s overall game plan.
Dennis Shea is the founder and principal of Shea Public Strategies LLC.
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