Reverse mortgages can only tap 20-50% of equity

I've been getting a few letters from readers of my article published yesterday in the L.A. Times about reverse mortgages, but one certainly stood out because it brought up an important point, which is that the available equity -- depending on the program -- could be much less than people hope (which is why I strongly encouraged interested parties to first do more research and speak with experts, as these programs are quite complicated):

My wife and I have recently been helping a 79yr. old friend with terminal multiple myeloma (bone marrow cancer) to be able to stay in her home. Her house has been appraised in the $1.3million range, and she had about $1.1million equity. She took a reverse mortgage with Wells Fargo Bank. After upfront costs, and the bank's paying off her approx. $200,000 debt on the house, she was provided $150,000. This means that Wells Fargo loaned about 30-33% of the value of the home. Indeed, when I spoke with a Wells Fargo loan officer, she confirmed for me that, while the exact formula is confidential, 33% is very much in the ballpark of the loan-to-value ratio of a reverse mortgage. Our friend is unable to "tap" the remaining equity in the house which she needs for the monthly cost of help in the home. From discussions with other seniors, I know that the realization that only 30-34% of available equity is available through a reverse mortgage is disappointing to many potential customers for reverse mortgages.

In this case, the borrower either got a jumbo reverse mortgage (which is not insured by the federal government) or the amount she could borrow was limited based on formulas set by FHA and HUD. The reason the equity available is limited is due to risk: since the amount available is based on age, lenders are making assumptions about how much they'll be paying out versus what they'll get back, which they hope will be the original amount advanced plus fees and accumulated interest. But let's say a borrower lives until 110 and the value of their home deflates -- in that case the lender has to eat the loss, which could be great news for the heirs, who won't be responsible for the difference.

I'd imagine that a big chunk of the equity NOT available for a cash advance on a reverse mortgage would be reserved for paying interest and fees, plus a healthy cushion for the lender should the value of the property falls. They're certainly not doing this to lose money!

I had hoped the Times would've included a reverse mortgage calculator for the online version (or at least provide links at the end of the story), but I didn't see those, so here they are:

Nat'l Reverse Mortgage Lenders Association
http://www.revmort.com/nrmla/index.asp

AARP
http://www.rmaarp.com/

Home builders still waiting for the bottom

There's a very interesting post at Forbes.com about which public building stocks might be a good buy, but more than that discusses what's going on in the overall market. For example, although larger builders -- which now account for 80% of the market -- have been cutting both prices and staff and even turning to auctions (both on their own and through third-party sources), smaller builders have yet to face up to the same reality:

The big builders, to be sure, have taken their medicine, and this is a good sign. Between them D.R. Horton (nyse: DHI - news - people ) and Pulte Homes (nyse: PHM - news - people ) have laid off 5,000 workers and written down their inventories of land and houses by $3.8 billion. Publicly traded companies build 80% of this country's single-family houses. The rest of the industry is in the hands of smaller outfits, ranging down in size to a carpenter putting up one speculative house. In this crowd reality has not yet settled in. When it does, you will see another round of price-cutting and another round of writeoffs.

Take a look at the auction market. A spec home can go to auction only if the auctioneer, the builder and the bank come to terms beforehand. The auctioneer wants to see a reserve price low enough that he knows the property will move. The bank is going to release its lien only if it knows that any shortfall between that price and the construction loan will be covered by the builder. The builder may be unwilling or unable to put more money into the investment...

Home prices have definitely not hit bottom. The S&P/Case-Shiller national index of home prices was down 7.7% year-over-year to November 2007. But the inventory of existing homes for sale in the U.S. is up 13.2% from a year ago, to 3.9 million homes. Not all of the motivated sellers have been heard from.

Can the Federal Reserve save the day? Not easily. There is a limit to what it can do about long-term interest rates. The last cut in overnight rates, Jan. 30, barely budged the rate on long-term Treasurys. People lending money for 30 years correctly perceive that an overnight stimulus from the Fed doesn't help them. It just means that they are going to be repaid with inflated dollars...

Meanwhile, home builders such as kb Home, D.R. Horton, Pulte Homes and Standard Pacific (nyse: SPF - news - people ) are in danger of breaching the covenants on their bonds because of their financial problems. That may well trigger ruinous requirements to repay investors the face value of the bonds, right away.

What passes for good news in the sector really isn't. Beazer reported in late January that its inventory of unsold homes was down 37% year over year, owing not so much to sales as to a halt in building. Pulte Homes is still holding the line on prices despite mothballing 50 developments; it just recorded its first annual loss in its 58-year history. Debt- and land-laden Lennar (nyse: LEN - news - people ) is rumored to be an acquisition candidate. With some 190, often opaque, joint ventures on its balance sheet, though, that's unlikely...

Is any home builder worth buying? Washington, D.C.-focused NVR (580, NVR ) has very little land--a good thing--and a long record of uninterrupted profitability, even in fraught 2007. If you want to buy now, get that one. Luxury home builder Toll Brothers (nyse: TOL - news - people ) (21, TOL ) has pulled itself into a strong cash position. Toll management has been forthright in confronting its challenges, as when it faced up to a 33% slide in contracts signed for 2007's final quarter. It has pruned excess landholdings, and its operations in the New York City area (one of the few not yet suffering) remain relatively healthy. Toll expects further revenue drops--22% in the current quarter--and I suspect the stock will drop another 10%. Buy it then.

Strategies to thaw out a frozen market

Since it seems that any potential remedies offered by the federal government to address the frozen market for home sales and mortgages could take months to have a large impact, both builders and existing homeowners stuck with unwanted inventory have, by necessity, become much more creative. From housing swaps, auctions and providing insurance against pricing declines to leveraging unused home equity with reverse mortgages or offering hard money property loans, some sellers and buyers are finding that a little ingenuity can sometimes trump a market in paralysis.

For some sellers not willing to wait for the market to rebound, swapping one home for another can break the logjam starting with the most efficient of mediums, the Internet. Starting as low as $19.95, potential swappers can list their homes on one of several websites which, according to a recent article in the Wall Street Journal, collectively offer 16,000 such postings. Over at classified advertising behemoth Craigslist.org, home swap listings soared to nearly 7,400 by the end of 2007. Builders are also getting jumping in – albeit gently – by offering to buy older trade-ins much like car dealers have done for years. Although that can simply mean substituting older inventory for new, by spreading out these unsold homes builders can more effectively control potential pricing declines and defend already fragile images. To protect everyone’s interests, experts strongly recommend using the same escrow company which won’t close the deals until all parties are in agreement, especially in those instances in which money exchanges hands.

After a hiatus during the boom years, real estate auctions have also made a comeback, but now are increasingly used by individuals just as much as developers. Now approaching a $60 billion industry, both sellers and buyers agree that auctions are an efficient and objective way to determine a property’s true market price. In addition, buyers at auctions are more serious than model home ‘be-backs’: to even participate they usually have to arrive with cash or casher’s checks of $10,000 to $20,000 and close within 30 to 45 days. Although accepting discounts of up to 40 percent or more may be hard to accept for most builders, the associated carrying costs for finished inventory over weeks or months in pursuit of a full-price sale could very well be a wash. And of course to a builder saddled with empty streets, an obviously lived-in house lit up at night pays even larger marketing dividends well after the sale.

Since many buyers continue to stubbornly await some mysterious green light to tell them it’s again time to buy, some builders are offering a form of pricing insurance that protects customers during the time period between a signed contract and a closed escrow. While Ryland Homes will reportedly offer price protection to anyone who asks, KBHome is taking a more aggressive stance and planning to launch its program to 35 markets in early 2008. A high-rise condo-hotel project in Seattle is even getting into the act -- reportedly the first development of its kind to do so in that region. Still, such an idea is still in its test phase – something Lennar found out in Florida before ending its own program. But with cancellation rates remaining at record-high rates, even denting them by 10 percentage points could make a big different to the bottom line.

Builders which cater to an active adult buyer – such as Del Webb, Meritage Active Adult Communities or Shea Homes’ Trilogy product line – could also conceivably benefit from a recent boom in reverse mortgages (and which I recently wrote about for the real estate section of the Los Angeles Times). With private lenders such as Countrywide, Wells Fargo and IndyMac’s Financial Freedom now rolling out jumbo reverse mortgages that don’t cap loan amounts like the FHA variety, borrowers can use the cash proceeds for any use they want – including the purchase of second homes that are used less than 50 percent of the time. Once derided as loans of last resort for poor seniors, reverse mortgages are increasingly seen as unique and useful financial planning tools that can leverage untapped home equity and can provide long-term security as well as maintain comfortable lifestyles. Best of all, the proceeds from reverse mortgages – whether in the form of a lump sum, monthly payments or credit lines – don’t count as income against Social Security or Medicare benefits.

Finally, for those buyers who simply can’t wait to move and with sufficient equity of their own, ‘hard money’ mortgages – which require collateral as high as 30% to 40% to minimize risk but charge an interest rate premium and high fees -- can lend borrowers some time until some much-needed liquidity returns to the market. Although used mostly by the wealthy, some experts believe that the disappearance of the sub-prime market could prove a boon to investors looking for a higher rate of return than can be found on Wall Street but without the risk of today’s mortgage securities. After all, the markets can’t thaw out until even the most creative of players are willing to act.

Urban gangs increasingly re-locating to Central California

Gang-related crimes, once confined to the inner parts of larger cities, have in recent years expanded to various suburbs as far-flung from South Central L.A. as the Antelope Valley and the Inland Empire. Now it seems that the numerous small towns and cities that make up California's Central Valley have also seen sharp rises in gang problems that have caught many off guard. This is also an excellent -- if early -- example of the theory that today's suburbs will become tomorrow's slums. Want to jog around your neighborhood wearing a red shirt? You can't do so anymore safely, as that color could be viewed as a taunt. From a story in the LA Times:

Along the 450 miles of the Central Valley, an explosion of gang violence in recent years has transformed life on the wide, tree-lined streets of California's agricultural heartland.

As jobs and relatively affordable housing in the fast-growing region have attracted families from the Los Angeles and San Francisco Bay areas, law enforcement officials say, some have brought gang ties with them, aggravating the valley's home-grown street crime.

"What we are seeing is a migration of gangs from larger cities . . . to more rural areas," said Jerry Hunter, who oversees state Atty. Gen. Jerry Brown's anti-gang units. "The gang activity . . . is a huge crisis for those communities."...

Some graffiti cleanup crews in Stanislaus County have bulletproof vests or police escorts. Lifeguards in Turlock no longer sport traditional red or blue swimwear -- those gang colors might provoke gunfire. Schools in many places have adopted anti-gang dress codes, and rumors of impending gang attacks sometimes scare students from classes. Fear has silenced witnesses to gang crimes.

Up and down the valley, task forces have been formed as evidence mounts that street hoodlums are committing homicides, robberies and car thefts and trafficking in drugs. Some communities have taxed themselves to pay for more police. Local, state and federal sweeps have produced thousands of arrests -- but tens of thousands more gang members remain on the streets, authorities say...

The lower end of the valley has long been known as the Mason-Dixon Line of California's major Latino gang rivalry. But now clashes between the Sureños, or southerners, and the Norteños, northerners, have migrated through the state.

"In the eastern part of the county, families are moving in from the L.A. basin," said Kern County Sheriff's Sgt. Mike Whiting. The gang members who come with them, he said, "are small fish there, but they can be bigger fish here."...

Police, school officials and community groups say gang violence cannot be curtailed without prevention and intervention. Some towns teach parents to be on alert for signs, such as red or blue clothing, shoes and handkerchiefs, that their children might be drifting toward gangs. Other towns have stepped up recreational activities to keep youngsters busy...

The Bulldogs have adopted the red theme and menacing mascot of Cal State Fresno's athletic teams, sometimes blurring the visual lines between gang members and others. "An Hispanic group occasionally will be in a compromising position at a mini-market or walking down the street . . . because they are wearing . . . Bulldog-related clothing," said Fresno Police Sgt. Bill Grove. "It poses problems for law enforcement as well. . . . We come into contact with known gang members and they claim they are just fans of the teams."

University officials say they are not about to surrender their mascot to gangs. "By changing our name, it would reward them," said Paul Oliaro, vice president for student affairs...

n the Stanislaus County community of Ceres, an alarming number of reports of shots fired prompted Police Chief Art de Werk to begin keeping count. Last year, more than 160 were logged in the town of about 42,000.

Some people, he said, "are virtual prisoners in their own homes."

Police Sgt. Rick Armendariz of Modesto supervises the Central Valley Gang Impact Task Force, an alliance of local, federal and state agencies that exchange intelligence and keep tabs on gang members on parole or probation.

"Gang members do not heed borders," he said. "Gang members move here but do not cut their ties."

Banks pushing harder for a mortgage bailout

What's the difference between the RTC -- which cost $200 billion to bail out those S&Ls which failed in the late 1980s and early 1990s -- and a proposed "Home Owner Preservation Corporation?" About 20 years and another $600 billion if the banks, led by BofA, get what they want. Arguing that a collapse in home prices could have far-reaching impacts on the overall economy, the banks are hoping that politicians will ignore the cacophony of complaints that will inevitably arise from voters resentful of paying for the mistakes of others:

A confidential proposal that Bank of America circulated to members of Congress this month provides a stunning glimpse of how quickly the industry has reversed its laissez-faire disdain for second-guessing by the government — now that it is in trouble.

The proposal warns that up to $739 billion in mortgages are at “moderate to high risk” of defaulting over the next five years and that millions of families could lose their homes.

To prevent that, Bank of America suggested creating a Federal Homeowner Preservation Corporation that would buy up billions of dollars in troubled mortgages at a deep discount, forgive debt above the current market value of the homes and use federal loan guarantees to refinance the borrowers at lower rates...

In practice, taxpayers would almost certainly view such a move as a bailout. If lawmakers and the Bush administration agreed to this step, it could be on a scale similar to the government’s $200 billion bailout of the savings and loan industry in the 1990s. The arguments against a bailout are powerful. It would mostly benefit banks and Wall Street firms that earned huge fees by packaging trillions of dollars in risky mortgages, often without documenting the incomes of borrowers and often turning a blind eye to clear fraud by borrowers or mortgage brokers.

A rescue would also create a “moral hazard,” many experts contend, by encouraging banks and home buyers to take outsize risks in the future, in the expectation of another government bailout if things go wrong again.

If the government pays too much for the mortgages or the market declines even more than it has already, Washington — read, taxpayers — could be stuck with hundreds of billions of dollars in defaulted loans.

But a growing number of policy makers and community advocacy activists argue that a government rescue may nonetheless be the most sensible way to avoid a broader disruption of the entire economy...

Supporters contend that a government rescue could be the fastest and cleanest way to force banks and investors to book their losses from bad mortgages — a painful but essential first step toward stabilizing the housing market.

The government would buy the mortgages at their true current value, perhaps through an auction, at what would probably be a big discount from the original loan amount. The mortgage lenders, or the investors who bought mortgage-backed securities, would be free of the bad loans but would still have to book their losses.

If the government took control of the bad mortgages, supporters of a rescue contend, it could restructure the loans on terms that borrowers could meet, keep most of them from losing their homes and avoid an even more catastrophic plunge in housing prices...

But even if the government did buy up millions of mortgages and force mortgage holders to take losses, the biggest problem could still lie ahead: deciding which struggling homeowners should receive breaks on their mortgages.

Administration officials have long insisted that they do not want to rescue speculators who took out no-money-down loans to buy and flip condominiums in Miami or Phoenix. And even Democrats like Representative Barney Frank of Massachusetts, chairman of the House Financial Services Committee, have said the government should not help those who borrowed more than they could ever hope to repay...

Borrowers who overstated their incomes are not likely to get much sympathy. But industry executives and consumer advocates warn that foreclosed homes push down prices in surrounding neighborhoods, and a wave of foreclosures could lead to another, deeper plunge in home prices.

Right or wrong, the arguments for rescuing homeowners are likely to be blurred with arguments for rescuing home prices. At that point, industry executives are likely to argue that what is good for Bank of America is good for the rest of America.

This could very well turn into a case of holding one's nose and pulling the trigger on a plan that would ultimately bailout both true victims and those guilty of financial malfeasance.

Giving bankruptcy judges the power to alter mortgages

Lenders are furious at the prospect of two new proposed laws that would allow bankruptcy judges to alter mortgages -- including lowering payments and balances owed -- so that people could keep their homes:

Both the Emergency Home Ownership and Mortgage Equity Protection Act of 2007 and the Foreclosure Prevention Act of 2008 aim to provide relief for some home owners in bankruptcy. Only borrowers who live in their homes and hold subprime or non-traditional mortgages, like interest-only loans, would be eligible...

The policy, which in industry parlance is called a cram-down, would reduce mortgage balances and monthly payments based on how much a home's value had decreased.

But opponents say the cram-downs would increase mortgage borrowing costs for everyone...

Cram-down opponents argue that borrowers who take risky loans should take the fall when they fail. Without penalties, borrowers would keep making bad bets.

And forgiving debt transfers risk from borrowers to the debt holders - investors in mortgage backed securities. That means interest rates will have to be higher to attract investors...

Steve O'Connor, the senior vice president for government affairs at the Mortgage Bankers Association (MBA), claims this could add upwards of one-and-a-half percentage points to everyone's interest rates. That would translate into an increase of about $200 a month on a $200,000, 30-year, fixed-rate loan.

"Looking forward, investors will say, 'How do I know this won't happen again, on a larger scale?'" O'Connor said. "Investors have choices in the marketplace and if they see an additional risk, they'll migrate to other securities."

Seniors turning to reverse mortgages to save homes

Reverse mortgages have become considerably more popular over the last few years, and now it seems that those who qualify (i.e., over age 62 with sufficient equity in their homes) are using it to pay off both adjustable and fixed-rate loans that have become unaffordable. Currently posted online and running in the February 24th edition of the L.A. Times, I had the opportunity to interview some folks who had recently done that and write about it for the real estate section:

IMAGINE a scenario in which, instead of struggling to come up with the money for a mortgage payment that's resetting to a higher level, you could tap the unused equity in your home not only to pay off that loan but also to have money for living expenses, remodeling, traveling or even investing in a vacation home. For seniors, there is such an option: the reverse mortgage...

With traditional home equity credit lines increasingly difficult to get in a time of declining home values and tight underwriting standards, eligible seniors older than 62 are finding that one benefit of reverse mortgages -- other than no pre-payment penalties and no credit or income qualifications -- is the ability to get rid of the sub-prime and other adjustable loans facing payment increases...

In general, eligible properties for the FHA program must be a principal residence and can include single-family homes, condominiums, manufactured homes built after 1976 or even two- to four-unit multifamily properties. Besides borrowers retaining ownership of the home for the duration of the loan, cash advances can be used for any purpose and don't count as income against Social Security or Medicare benefits -- although it can affect Medicaid and other state or federal assistance, so it's definitely best to check details with an attorney or local expert...

As promising as they sound, however, reverse mortgages do have limitations. Since borrowers need to be at least 62, it can get complicated when one spouse is younger than that. Although some borrowers have solved this problem by transferring the ineligible spouse's interest in the home into a trust, such a plan can backfire when the eligible spouse dies, which would require the original loan amount, all interest charges and fees to be repaid.

Homeowners who are currently in bankruptcy do not qualify, neither do owners of most mobile homes, co-ops or homes on leased land. And even for those owning eligible property types, there has to be sufficient equity remaining in the home after other mortgages and home-equity lines are paid off to close the deal, in which case a traditional home-equity line may suffice. Consequently, experts often counsel applicants to discuss options with their extended families before moving forward...

If a borrower falls ill and needs to stay in a hospital or a nursing home, most reverse mortgages don't come due until 12 months after the property is no longer a principal residence. That gives families time to plan for other options such as selling the home or refinancing with a traditional mortgage to repay the loan in full. And, since reverse mortgages are "non recourse" -- meaning the borrower and any heirs will never owe more than the market value of the home at the time it is sold -- the estate is protected if the homeowner outlives the projected life of the loan or the market value of the property plummets.

A homeowner bailout becoming a possibility

One only needs to read comments on various blogs to realize how angry people will become -- especially renters waiting for home prices to fall so they can buy something -- if there's a government bailout of homeowners underwater on their homes or otherwise headed for default.

And yet that very idea is slowly trending towards a possibility -- not yet a reality, but something that's being considered because private-market solutions simply aren't working. To be sure, both sides have their compelling arguments, but when the U.S. economy is at stake -- in a Presidential election year, no less -- many would argue that politics will almost certainly win out over what many perceive as basic fairness:

Prodded in part by some of the nation’s biggest banks, the Bush administration and Congress are considering costly new proposals for the government to rescue hundreds of thousands of homeowners whose mortgages are higher than the value of their houses...

Administration officials say they still oppose any taxpayer bailout for either people who borrowed more than they could afford or banks that made foolish loans during the height of the speculative bubble in housing.

But with the current efforts to arrest the housing collapse so far bearing little fruit, Washington is being forced to explore new ideas, among them the idea of a federal mortgage guarantee for troubled borrowers.

And policy makers are listening to proposals from industry and community groups to use government funds to purchase and refinance billions of dollars in mortgages now in danger of default...

The housing slumps of the mid-1970s and late 1980s were confined to the coasts. The current bust, while leaving some cities relatively unscathed, has cut a far wider path and it comes just when home debt is at its highest level since World War II...

Some eventually default, surrendering to foreclosure. But the vast majority — embedded in their communities, their children in public schools, their reputations at stake — wait nervously in hope that prices will bottom and rise once again, eliminating their negative equity and restoring their freedom to sell or refinance...

In Washington, it will be difficult to engineer a bailout similar to the one for savings and loan companies in the early 1990s, because Democrats and Republicans alike cringe at the very word bailout and fear a backlash by people who never became overextended.

But with millions of homeowners already underwater and the prospect that millions more may face the same situation, Democrats and Republicans alike are scrambling for ideas to keep people from simply walking away from their homes and to help those struggling to pay their bills.

But here's why it's catching the attention of politicians:

For Americans caught in a mortgage trap and owing more on a home than it would sell for, consumer spending and confidence are the most immediate casualties, Mr. Curtin reports. But the damage goes deeper.

People cannot move easily to jobs in other cities if they have to sell their homes at a loss. The $168 billion federal stimulus package is likely to be less effective than intended because many homeowners may simply use their government checks to pay down their debts.

Actually, that argument was widely floated before the stimulus plan was signed but both parties felt pressure to do something. With the economy still in danger of tanking, look for the pressure to do more to only increase.

Will the suburbs become the next slums?

A friend of mine sent me a recent post on the LACurbed website citing an upcoming article in the March issue of the Atlantic Monthly. Entitled "The Next Slum?" it theorizes that large social and demographic changes in the U.S. will re-energize cities at the expense of suburbs.

So why should you care? Because its author -- Christopher Leinberger -- is one of the country's most revered and respected land development consultants and now also a developer (I worked for a short time at the consulting company he once co-owned, and Chris was widely seen as the intellectual firepower driving the company). Due to choking traffic here in Southern California, rising energy prices, increasing stress on free time and a boredom with suburbia, it's not surprising that infill and mixed-use (residential plus retail) communities are becoming increasingly popular. But Chris puts this all into a context that makes highly compelling reading:

A structural change is under way in the housing market—a major shift in the way many Americans want to live and work. It has shaped the current downturn, steering some of the worst problems away from the cities and toward the suburban fringes. And its effects will be felt more strongly, and more broadly, as the years pass. Its ultimate impact on the suburbs, and the cities, will be profound.

Arthur C. Nelson, director of the Metropolitan Institute at Virginia Tech, has looked carefully at trends in American demographics, construction, house prices, and consumer preferences. In 2006, using recent consumer research, housing supply data, and population growth rates, he modeled future demand for various types of housing. The results were bracing: Nelson forecasts a likely surplus of 22 million large-lot homes (houses built on a sixth of an acre or more) by 2025—that’s roughly 40 percent of the large-lot homes in existence today.

For 60 years, Americans have pushed steadily into the suburbs, transforming the landscape and (until recently) leaving cities behind. But today the pendulum is swinging back toward urban living, and there are many reasons to believe this swing will continue. As it does, many low-density suburbs and McMansion subdivisions, including some that are lovely and affluent today, may become what inner cities became in the 1960s and ’70s—slums characterized by poverty, crime, and decay...

Pent-up demand for urban living is evident in housing prices. Twenty years ago, urban housing was a bargain in most central cities. Today, it carries an enormous price premium. Per square foot, urban residential neighborhood space goes for 40 percent to 200 percent more than traditional suburban space in areas as diverse as New York City; Portland, Oregon; Seattle; and Washington, D.C.

It’s crucial to note that these premiums have arisen not only in central cities, but also in suburban towns that have walkable urban centers offering a mix of residential and commercial development. For instance, luxury single-family homes in suburban Westchester County, just north of New York City, sell for $375 a square foot. A luxury condo in downtown White Plains, the county’s biggest suburban city, can cost you $750 a square foot. This same pattern can be seen in the suburbs of Detroit, or outside Seattle. People are being drawn to the convenience and culture of walkable urban neighborhoods across the country—even when those neighborhoods are small...

But developers are also starting to find ways to bring the city to newer suburbs—and provide an alternative to conventional, car-based suburban life. “Lifestyle centers”—walkable developments that create an urban feel, even when built in previously undeveloped places—are becoming popular with some builders. They feature narrow streets and small storefronts that come up to the sidewalk, mixed in with housing and office space. Parking is mostly hidden underground or in the interior of faux city blocks...

Building lifestyle centers is far more complex than building McMansion developments (or malls). These new, faux-urban centers have many moving parts, and they need to achieve critical mass quickly to attract buyers and retailers. As a result, during the 1990s, lifestyle centers spread slowly. But real-estate developers are gaining more experience with this sort of building, and it is proliferating. Very few, if any, regional malls are being built these days—lifestyle centers are going up instead...

Demographic changes in the United States also are working against conventional suburban growth, and are likely to further weaken preferences for car-based suburban living. When the Baby Boomers were young, families with children made up more than half of all households; by 2000, they were only a third of households; and by 2025, they will be closer to a quarter. Young people are starting families later than earlier generations did, and having fewer children. The Boomers themselves are becoming empty-nesters, and many have voiced a preference for urban living. By 2025, the U.S. will contain about as many single-person households as families with children...

The experience of cities during the 1950s through the ’80s suggests that the fate of many single-family homes on the metropolitan fringes will be resale, at rock-bottom prices, to lower-income families—and in all likelihood, eventual conversion to apartments...

Of course, not all suburbs will suffer this fate. Those that are affluent and relatively close to central cities—especially those along rail lines—are likely to remain in high demand. Some, especially those that offer a thriving, walkable urban core, may find that even the large-lot, residential-only neighborhoods around that core increase in value...

On the other hand, many inner suburbs that are on the wrong side of town, and poorly served by public transport, are already suffering what looks like inexorable decline. Low-income people, displaced from gentrifying inner cities, have moved in, and longtime residents, seeking more space and nicer neighborhoods, have moved out.

But much of the future decline is likely to occur on the fringes, in towns far away from the central city, not served by rail transit, and lacking any real core. In other words, some of the worst problems are likely to be seen in some of the country’s more recently developed areas—and not only those inhabited by subprime-mortgage borrowers. Many of these areas will become magnets for poverty, crime, and social dysfunction.

Despite this glum forecast for many swaths of suburbia, we should not lose sight of the bigger picture—the shift that’s under way toward walkable urban living is a healthy development. In the most literal sense, it may lead to better personal health and a slimmer population. The environment, of course, will also benefit: if New York City were its own state, it would be the most energy-efficient state in the union; most Manhattanites not only walk or take public transit to get around, they unintentionally share heat with their upstairs neighbors.

Perhaps most important, the shift to walkable urban environments will give more people what they seem to want. I doubt the swing toward urban living will ever proceed as far as the swing toward the suburbs did in the 20th century; many people will still prefer the bigger houses and car-based lifestyles of conventional suburbs. But there will almost certainly be more of a balance between walkable and drivable communities—allowing people in most areas a wider variety of choices.

I highly recommend anyone interested further read this article in its entirety. It's important.

Higher conforming loan limits, Act 2

According to a column by Lew Sichelman, the higher conforming loan limits will disproportionately assist 15 counties, most of those in California, and the NAHB is worried that the Office of Federal Housing Enterprise Oversight will drag its feet in implementing higher conforming loan limits:

Only 15 counties in the U.S. have a median house price high enough to qualify for the temporary maximum conforming loan limit called for in the economic stimulus package, an indication that the big jump may not help as many home buyers and refinancers as originally expected. The National Association of Home Builders had hoped that as many as 29 metropolitan areas would qualify for the new $729,725 ceiling. But according to a staff member at the group's convention in Orlando last week, it now appears that less than 10 will make it...

NAHB officials also expressed concern that Fannie and Freddie's safety and soundness regulator, the Office of Federal Housing Enterprise Oversight, will drag its feet in approving the GSEs' programs to buy the higher-limit conforming loans...

Although he has vowed to work with the GSEs, OFHEO Director James Lockhart is on record as opposing the temporary increase in the conforming loan limit. And the concern is that OFHEO will set such high capital requirements and set the bar so high for qualifying for a jumbo conforming mortgage that only a relative handful of loans will be made...

At the convention, Edward DeMarco, OFHEO's deputy director, said his agency is "committed" to carrying out the intent of Congress. And he stressed that the internal review processes that must be undertaken are those of Fannie and Freddie, not OFHEO.

"We're asking them to operate their businesses is a safe and sound manner," DeMarco said. "We're not trying to impede them. We're right there with them, making sure they understand the added risk they are undertaking."

But in a late January statement, Lockhart indicated his agency would have a large presence in the process, saying it wants to be certain the GSEs have the "appropriate risk management policies and capital in place."

Hence, the fear that OFHEO will make Fannie and Freddie "jump through hoops."

KBHome first to get national certification

One thing you can say about KBHome is that it's a far different company that it was 15 or 20 years ago. Once oriented towards entry-level homes and sometimes accused of less-than-stellar quality, not only are their homes today more much interesting and offered to a variety of buyer segments, but they're also built much better than in the past. Add to that the alliances with Martha Stewart Living and Disney and you can see why the company has pursued national certification from the NAHB Research Center for quality building practices -- and is the first national builder to do so:

KBHome has become the first builder nationally to earn certification for quality building practices from NAHB Research Center, a third party organization.

All KB Home affiliates across the country have been certified under the National Housing Quality (NHQ) Certified Builder Program of the National Association of Home Builders Research Center (NAHB).

In January KB Home New Mexico, one of the largest production home builders in New Mexico, announced it had been recertified by the group following a rigorous audit by NAHB of the company's quality assurance systems.

The NHQ certification provides a complete review of business practices and ensures consumers that all the elements of a builder's quality assurance system are being followed. Participating builders are audited by NAHB each year for recertification.

Postponing mortgage debt vs. forgiveness

Here's an interesting idea from the Office of Thrift Supervision: instead of forgiving mortgage debt through a short sale, why not postpone the debt and recapture it when the market rebounds? Although the OTS only oversees Savings & Loans, if they convince lenders to pursue such a plan, other financial institutions might follow suit:

The Office of Thrift Supervision (OTS) is urging the federal savings and loans lenders under its authority to refinance loans by reducing mortgage balances to the current market values of the homes. Thanks to falling home prices, many homeowners are now stuck with mortgages that are actually worth more than the houses themselves.

But instead of having lenders forgive the difference between the old mortgage and a house's current resale value, called a short sale, the OTS advises that lenders issue a warrant or "negative amortization certificate" for the difference. If a home regains its market value and is then sold, lenders have first claims to the profits...

The hope is that this plan will help prevent foreclosures while minimizing the hit that lenders will take, all without putting any burden on the taxpayers...

The savings and loan industry, which held 31% of mortgage loans last year, saw record losses of $5.24 billion for the fourth quarter of 2007, according to the OTS.

Few details about the plan have been settled, but it would not involve any legislation, nor would it be mandated in any way. Adoption would be on a voluntary basis by the hundreds of thrift institutions in the United States, like Washington Mutual (WASH) and IndyMac Bancorp (IMB)...

...rather than spending $50,000 to foreclose on a home or to write-off the negative amortization in a short-sale, they get a certificate that permits them to share in the up-side, if and when housing markets recover.

So does this plan have a shot?

Is the U.S. risking the 'mother of all meltdowns?'

According to Professor Nouriel Roubini of New York University's Stern School of Business, founder of RGE monitor and a noted housing bear who's predicting declines in home prices of 20% to 30% from their peak, an even more dire scenario is possible -- on in which up to $1 trillion in wealth is wiped out in a protracted recession that the Federal Reserve is simply not equipped to address.

First, from a Financial Times piece, are 12 stages of his envisioned and possible economic calamity:

Step one is the worst housing recession in US history. House prices will, he says, fall by 20 to 30 per cent from their peak, which would wipe out between $4,000bn and $6,000bn in household wealth. Ten million households will end up with negative equity and so with a huge incentive to put the house keys in the post and depart for greener fields. Many more home-builders will be bankrupted.

Step two would be further losses, beyond the $250bn-$300bn now estimated, for subprime mortgages. About 60 per cent of all mortgage origination between 2005 and 2007 had "reckless or toxic features", argues Prof Roubini. Goldman Sachs estimates mortgage losses at $400bn. But if home prices fell by more than 20 per cent, losses would be bigger. That would further impair the banks' ability to offer credit.

Step three would be big losses on unsecured consumer debt: credit cards, auto loans, student loans and so forth. The "credit crunch" would then spread from mortgages to a wide range of consumer credit.

Step four would be the downgrading of the monoline insurers, which do not deserve the AAA rating on which their business depends. A further $150bn writedown of asset-backed securities would then ensue.

Step five would be the meltdown of the commercial property market, while step six would be bankruptcy of a large regional or national bank.

Step seven would be big losses on reckless leveraged buy-outs. Hundreds of billions of dollars of such loans are now stuck on the balance sheets of financial institutions.

Step eight would be a wave of corporate defaults. On average, US companies are in decent shape, but a "fat tail" of companies has low profitability and heavy debt. Such defaults would spread losses in "credit default swaps", which insure such debt. The losses could be $250bn. Some insurers might go bankrupt.

Step nine would be a meltdown in the "shadow financial system". Dealing with the distress of hedge funds, special investment vehicles and so forth will be made more difficult by the fact that they have no direct access to lending from central banks.

Step 10 would be a further collapse in stock prices. Failures of hedge funds, margin calls and shorting could lead to cascading falls in prices.

Step 11 would be a drying-up of liquidity in a range of financial markets, including interbank and money markets. Behind this would be a jump in concerns about solvency.

Step 12 would be "a vicious circle of losses, capital reduction, credit contraction, forced liquidation and fire sales of assets at below fundamental prices".

So why can't the Federal Reserve prevent this situation from occurring?

US monetary easing is constrained by risks to the dollar and inflation; aggressive easing deals only with illiquidity, not insolvency; the monoline insurers will lose their credit ratings, with dire consequences; overall losses will be too large for sovereign wealth funds to deal with; public intervention is too small to stabilise housing losses; the Fed cannot address the problems of the shadow financial system; regulators cannot find a good middle way between transparency over losses and regulatory forbearance, both of which are needed; and, finally, the transactions-oriented financial system is itself in deep crisis.

Eventually, however, governments have little choice but to come to the rescue, no matter what citizens might think about bailing out the stupid and the greedy -- the alternatives are simply too grave:

In the last resort, governments resolve financial crises. This is an iron law. Rescues can occur via overt government assumption of bad debt, inflation, or both. Japan chose the first, much to the distaste of its ministry of finance. But Japan is a creditor country whose savers have complete confidence in the solvency of their government. The US, however, is a debtor. It must keep the trust of foreigners. Should it fail to do so, the inflationary solution becomes probable. This is quite enough to explain why gold costs $920 an ounce.

The connection between the bursting of the housing bubble and the fragility of the financial system has created huge dangers, for the US and the rest of the world. The US public sector is now coming to the rescue, led by the Fed. In the end, they will succeed. But the journey is likely to be wretchedly uncomfortable.

Subprime loans in default well before resetting

Financial planners would generally tell you to avoid the "cross your fingers and hope for the best" variety of financial planning. Now it seems that there are plenty of people who were not able to afford subprime mortgages even from the beginning, as they're defaulting well before the infamous toxic resets we've been hearing about for months.

For months, we've fretted about the Armageddon that will hit when subprime adjustable rate mortgages start resetting to much higher interest rates.

What's happening is even worse: Many of these loans are defaulting well before their rates increase.

Defaults for subprime loans issued in 2007 - none of which have reset yet - hit 11.2 percent in November. That represents perhaps 300,000 households, and is twice the default rate that 2006 loans had 10 months after being issued, according to Friedman, Billings Ramsey analyst Michael Youngblood.

Defaults are spiking well before resets come into play thanks to the lax lending environment of the past few years. Many borrowers were approved for mortgages that they had little chance of affording, even at the low-interest teaser rates ...

Originally, concerns about these loans focused on the fact that that most homeowners wouldn't survive such pricey resets. In late 2006, the Center for Responsible Lending (CRL), predicted that 2.2 million subprime ARM borrowers would lose their homes in the following two years due to reset shock.

But these mortgages were doomed from the start.

For instance, in both 2006 and 2007, well over 40 percent of subprime borrowers were awarded mortgages with either little or no documentation of their ability to pay. With these so-called "liar loans," borrowers did not have to show proof of either earnings or assets.

And even when borrowers did go on the record about their earning power, it didn't bode well. Both 2006 and 2007 saw a large proportion of loans with high debt-to-income ratios (DTI), which indicates the percentage of gross income required to pay debt. In 2007 subprime originations, the DTI hit 42.1 percent, up from 41.1 percent in 2006. Borrowers were simply taking on more debt that they could afford.

What's more, many borrowers started out with low- or no-down payment loans, which left them with almost no equity in their home...

During the boom, rapid price appreciation meant borrowers built up home equity quickly. That minimized defaults, since owners could draw from that equity to pay their bills - including their mortgages - through home equity loans.

But prices fell starting in 2006,leaving borrowers with less home equity to draw upon when they run into financial problems...

Owners with mortgages worth more than their homes simply began walking away from their homes when costs become unmanageable.

By late 2006, lenders knew that the housing market was heading south. Foreclosure filings took off during the third quarter that year, up 43 percent from 12 months earlier, according to RealtyTrac, the online marketer of foreclosure properties. And home prices began to drop.

But instead of cutting back on risky loans, lenders kept lending. Why?

"Because investors continued to buy the loans," said Doug Duncan, chief economist of the Mortgage Bankers Association.

Despite their quality, subprime mortgages were as profitable as any other for lenders like Countrywide (CFC, Fortune 500) and Wells Fargo (WFC, Fortune 500), who were able to quickly securitize the loans and sell them in the secondary market. The loans sold easily because they carried the promise of high yields...

Of course that's a bet that went bad. And it's likely to get worse as resets for ARMs issued in 2006 and 2007 kick in this year.

So what does this all mean in such an important election year? A much stronger likelihood of some type of homeowner bail-out. After all, the unwilling homeless make very cranky voters!

Latest edition of BuilderBytes published

The 2/19/08 edition of BuilderBytes is out and being emailed to its subscribers. Offering a compilation of new stories over the previous two weeks, it has an audience approaching 100,000 in the building industry. BuilderBytes is a service of Peninsula Publishing, publisher of Builder & Developer magazine and other titles (for which I write a regular column). You can also read all of these titles online.