The home mortgage interest deduction is in the political cross-hairs once again, as lawmakers seek cost-cutting measures that can win bipartisan support in a divided Congress and make a significant dent ($2.4 trillion is the target) in the federal budget deficit lawmakers are trying to tame.
The interest deduction would clearly hit the second mark (denting the deficit); it costs the Treasury more than $100 billion a year, making it, according to critics, the single largest federal housing subsidy program by far. Preserving the deduction has enjoyed consistent bipartisan support, with lawmakers on both sides of the aisle united in their refusal to touch what has traditionally been viewed as the most popular middle class tax break on the books. But growing concern about the nation’s economic problems and a shift in voter attitudes may be making this political sacred cow somewhat less sacred than it has been in the past.
Nearly half of the respondents to a recent poll said they would support eliminating the deduction as part of a broader plan to reduce tax rates overall; only 45 percent opposed the change. That represents a sea change from previous polls, in which supporters of the deduction outnumbered those willing to kill it by a ratio of two to one, according to a Bloomberg News report. And the recent poll, reflecting more willingness to jettison the deduction, came before the Congressional stand-off that took the country to the brink of financial default.
Housing industry trade groups, led by the National Association of Realtors, steadfastly oppose any move to eliminate the deduction, arguing that it is a cornerstone of the nation’s commitment to home ownership. In any event, the current fragility of the housing market makes this “the worst possible time” to contemplate a change, Lawrence Yun, the NAR’s chief economist, argued at a recent housing forum.
Advocates of rethinking the deduction say eliminating it or retaining it unaltered aren’t the only options. Reducing the deduction cap (currently set at $1 million) or limiting it to primary residences, would also generate significant savings, they note. The President’s deficit reduction committee estimated that replacing the deduction with a 12 percent tax credit for homeowners, capped at $500,000 (a move the committee recommended) would raise an estimated $48 billion in tax revenue.
The strongest argument for rethinking the mortgage interest deduction, Dean Stansel, an adjunct fellow at the Reason Foundation, suggested at the housing forum, is its limited scope: The benefits accrue primarily to wealthier homeowners with larger mortgages; “seventy-five percent of taxpayers don’t benefit from this at all,” he said.
LOAN LIMIT SKIRMISH
The looming October 1 expiration of the temporary increase in the conforming loan limits for residential mortgages has spurred a flurry of lobbying activity aimed at convincing Congress to keep the emergency measure in place for a while longer.
Absent Congressional action, the maximum size of mortgages Fannie Mae and Freddie Mac can purchase will fall from $729,750 to $625,500; limits on FHA-insured mortgages will also be scaled back. Critics say the lower loan caps will deal another blow to a housing market that is already reeling from record foreclosures, declining prices and tight credit standards that have reduced the pool of buyers able to qualify for loans.
Congress raised the limits in 2008 and extended them for another year in 2010 as the housing market downturn deepened. But the Obama Administration, which backed both those moves, now opposes an extension, putting the White House, uncharacteristically, on the side of Republican lawmakers who have argued that the private sector can and should fill the housing funding gap now. Continuing losses at Fannie and Freddie, both operating under federal conservatorship, also argue for scaling back the GSEs and reducing their exposures, critics say.
But with the housing market still struggling and concerns growing that the economy may be stumbling toward a double-dip, arguments for keeping the higher loan limits in place may gain traction. Jaret Seiberg, a research analyst at MF Global, puts the odds of extending the loan limits at only 40 percent, but he also thinks those odds could improve.
“If the economic troubles that we appear to be seeing now are still around or worse by the time [Congress] goes back into session,” he told American Banker recently “then I think we’re going to be looking for something that can pass.”
DODGING HOUSING DAGGERS
Housing industry trade groups are understandably feeling a little bit like catchers on a javelin team; everywhere they look, they see policy daggers flying toward the housing market. In addition to the mortgage interest deduction and conforming loan limit challenges noted above, industry lobbyists are also trying to deflect the new risk retention rules that would make a 20 percent down payment standard and make low-down-payment loans both scarce and more expensive.
A provision of the Dodd-Frank financial reform legislation requires lenders to retain 5 percent of the risk on all loans they pool and sell in securities, with the exception of loans deemed to be low-risk. The legislation directed the Federal Reserve to define the “qualified residential mortgages” that would be eligible for the exemption. The Fed’s implementing regulation makes a 20 percent down payment one of the qualifying criteria, virtually insuring, critics say, that few lenders will offer low-down-payment alternatives, which would be subject to the risk-retention requirement if sold.
Most of the major housing trade groups – the National Association of Realtors (NAR), the National Association of Mortgage Brokers (NAMB), and the Mortgage Bankers Association (MBA) have submitted comment letters warning that the rules will make an already dire housing market situation even worse.
“Any further unnecessary or unreasonable constraint on borrowers’ ability to obtain the financing they need to purchase or refinance their home will continue to perpetuate declining home prices and subvert the progress that is being made in other areas toward an economic recovery,” NAMB warned in its comment letter – a warning echoed by all of the other groups.
"The proposed rule should be withdrawn, revised and republished for public comment. If not, then millions of hard-working, creditworthy consumers will not be able to achieve their dreams of owning a home," Ron Phipps, president of the NAR, wrote in that group’s comment letter.
The NAR estimates that it would take more than a decade for a family with a median household income to save enough for a 20 percent down payment; saving enough for a 10 percent down payment would require more than 8 years. The time frame for lower income minority and first-time buyers would be even longer and the impact even more severe, Phipps said.
The industry trade groups also argue that the underwriting restrictions the new regulations impose are more severe than needed to ensure that borrowers are able to afford the mortgages they obtain. David Stevens, CEO of the MBA, emphasized that point, noting that prudent underwriting can accommodate more flexible qualifying standards.
“While a reasonable and affordable… LTV requirement may be warranted, the rules should not hardwire a specific amount but instead permit offsetting factors in the context of prudent underwriting," Stevens argued in the MBA’s comment letter. "Higher LTV loans may pose greater risks,” he acknowledged. “However, these risks can be mitigated by compensating factors such as strong credit and appropriate documentation."
Uncle Sam wants you — or someone — to buy $30 billion in foreclosed properties from Fannie Mae, Freddie Mac and the Federal Housing Administration, and then convert them into affordable rental properties. The new initiative, the most recent in a series of Obama Administration efforts to cope with the nation’s housing crisis, targets two problems with a single policy bullet: The glut of foreclosed properties depressing home prices and impeding home sales and the nation’s critical need for affordable rental housing.
“Millions of families nationwide have seen their home values impacted as their neighbors’ homes fall into foreclosure or become abandoned,” Shaun Donovan, Secretary of Housing and Urban Development (HUD), said in a prepared statement announcing the plan. At the same time, he added, “with half of all renters spending more than a third of their income on housing and a quarter spending more than half, we have to find and promote new ways to alleviate the strain on the affordable rental market”
HUD and the FHA have issued a “request for information,” asking private investors, industry stakeholders and community organizations to suggest ideas for disposing of the more than 250,000 government-owned foreclosed properties. A more formal “request for proposals” will follow the request for information, but probably not for several months, government officials indicated.
Administration officials are reportedly considering a plan that would sell foreclosed properties in pools to investors, who would manage them as affordable rentals. But they have indicated a willingness to consider other means of achieving their key policy goals: Reducing foreclosure losses for the GSEs, stabilizing home prices and neighborhoods (both of which are depressed by high-volume distress sales and the glut of unsold properties), and increasing the supply and quality of rental housing.
“Taking steps to encourage private investment in REO properties and transition them into productive use will help stabilize neighborhoods and home values at a critical time for our economy,” Donovan said in his press statement.
Industry executives and community advocacy groups have both responded favorably to the proposal. “Without question, in order to settle the markets and move the foreclosed inventory, we're going to need both owner-occupied and non-owner-occupied solutions,” David Stevens, CEO of the Mortgage Bankers Association of America (MBA), told the Los Angeles Times.
John Taylor, president of the National Community Reinvestment Organization, praised both the rental proposal and the way the Administration is pursuing it. "Asking for input [through the request for information] is a good sign,” Taylor told the LA Times, “because they're looking to do something other than say, 'OK, this property is available and who's the highest bidder. I think they recognized that's not going to work."
In addition to easing negative pressures on the housing market, the foreclosure-to-rental strategy would also help preserve properties that will deteriorate if they remain vacant for too long, industry executives point out.
The plan would also slow the torrent of foreclosed properties flooding the for-sale market, short-circuiting a cycle that other Administration initiatives, including its flagship Home Affordable Mortgage Program (HAMP) have been unable to break.
The plan indicates that the Administration “has finally recognized the urgent need to be proactive and creative in pulling the housing market out of the foreclosure tailspin,” Sen. Jack Reed (D-RI), told reporters.
Reed has been urging federal agencies to convert vacant foreclosed homes into rental housing, but has included energy-efficiency upgrades in his plan – an approach that, he says, would reduce energy costs for renters and future owners and create jobs in the construction industry, which has been decimated by the prolonged housing downturn.
Separately, the House Financial Services Committee is considering a bill introduced by Rep. Gary Miller (R-CA) that would allow Fannie, Freddie, and FDIC-insured lenders to rent foreclosed properties back to their owners (or to other tenants) for five years. The bill has strong bi-partisan support on the committee, with backing from both chairman Spencer Bachus (R-AL) and ranking member Barney Frank (D-MA).
“[This legislation] will reduce the number of houses coming into the housing inventory and will preserve the physical condition of foreclosed properties, which will ultimately help stabilize the aesthetic and economic values of homes and neighborhoods,” Miller said.
FEW CASHING OUT
This almost certainly will not be the most surprising piece of information you receive this week (or in this lifetime), but cash-out refinancing activity has plummeted.
Only 25 percent of the homeowners who refinanced their mortgages in the second quarter of this year tapped equity as part of that transaction, according to a Freddie Mac report, and the equity they tapped was less than 10 percent of the total in the same period five years ago. At that point – the height of the cash-out refi boom – borrowers drained nearly $84 billion from their homes.
The housing market downturn has sucked trillions of dollars in equity from the housing market, leaving many owners underwater on their mortgages, and others, though current on their loans, without much, if any, equity to tap. Even those who still have an equity cushion are reluctant to use it, because of uncertainty about the economic forecast, analysts say.
Cash-out refis represented more than 60 percent of the refinancing activity between 1985 and 2010, Freddie Mac reported. But borrowers who refinanced in the first half of this year were almost as likely to put cash in (21 percent did that) as they were to take it out (25 percent). More than half (54 percent) reduced their interest rate and/or shortened their loan term, trading a 30-year for a 15-year repayment period, but leaving their principal balance unchanged – the largest percentage in that category since 1985, when Freddie began tracking refi patterns, Frank Nothaft, the agency’s chief economist, noted.
As homeowners have aggressively chipped away at their mortgage debt over the past three years, their aggregate “financial-obligation ratio” has declined from the peak reached in the third quarter of 2007 to a level “last seen more than a decade ago,” Nothaft said.