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Homeowners hardest hit by foreclosure crisis deserve 'disaster' relief

cleveland.com | April 14, 2016

By Matthew Rossman

My favorite recent movie is "The Big Short." I admire its craftsmanship. It turns a subject as complex and dense as the origins of the foreclosure crisis into two hours of riveting entertainment, which is no small task.

I am also simply glad to see the story of the foreclosure crisis get the attention it deserves. As the movie reveals, the crisis was not a naturally occurring adjustment to the housing market, but a once-in-a-generation financial catastrophe. It had villains – unconscionable financial industry greed, feckless government and rating agency regulation, outright fraud and reckless borrowing. And it had victims.

One group of those hit particularly hard by the crisis has received relatively little attention. These are homeowners in communities where home prices fell steeply during the crisis and never recovered.

The excellent and exhaustive research on Cuyahoga County housing trends conducted by Frank Ford and the Western Reserve Land Conservancy and featured in The Plain Dealer last month identifies where this occurred locally. Homeowners in these communities lost substantial equity in what is typically their principal asset.

This phenomenon is not limited to Cuyahoga County. Examining aggregated national housing statistics alone shows a sudden and deep decline in the health of the housing market, commencing around 2007, followed by a steady and nearly full recovery. The reality, however, is that how one experienced the foreclosure crisis has varied greatly depending on where one stands. Some U.S. communities saw little or no decreases in median home values during the crisis; some experienced large decreases but have fully recovered or are close to it; and still others suffered dramatic decreases and have seen little or no recovery.

Important questions should follow. What accounts for this variation?

While the answer itself varies somewhat when examining real estate submarkets across the entire country, some common factors emerge. By and large, the communities hit hardest by the foreclosure crisis were inundated by disproportionately large numbers of adjustable-rate, subprime mortgages, which by design are more likely to induce borrower default and foreclosure.

Subprime lenders feasted on low- to middle-income and minority borrowers, often when they actually qualified for more conventional mortgages in the years leading up to the crisis. It is, thus, no coincidence that communities with these types of borrowers disproportionately bore the brunt of the crisis.

Foreclosures decrease the value of surrounding properties and lead to vacancies; vacancies cause deterioration, discourage investment, and increase crime, which further decrease property values; decreased values reduce city services; all of these factors cause more foreclosures, and the beat goes on.

Large numbers of foreclosures in highly concentrated areas within a compressed period of time pushed certain, already vulnerable, housing markets over a cliff, permanently transitioning them to a lower-value plateau. It is only now, several years after prices began to recover in most places, that this permanent damage is evident.

Homeowners in hardest-hit communities who weathered the storm, made their scheduled mortgage payments and maintained and invested in their homes may only now be fully awakening to the reality that recovering their lost home values could be a very long-term proposition.

So what should we do? In discussing strategies, we shouldn't fall into the trap of thinking of the foreclosure crisis as a purely market-driven phenomenon that the market already has or should solve. The crisis was much more akin to a catastrophe, engineered by many, that hit some communities much harder than others.

Just as disaster relief funds aid in cleaning up the damage left by hurricanes or tornadoes, public and philanthropic-sector funding should aim to remove foreclosure- and vacancy-induced blight in the hardest-hit communities.

Recent efforts by local leaders to convince the federal government to authorize additional "Hardest Hit Funds" to demolish vacant and abandoned properties that are beyond repair should be applauded.

Likewise, the federal tax code, which allows those whose homes are damaged by a natural calamity to deduct uninsured losses in their home's value from their taxable income, should extend similar treatment to homeowners in the hardest-hit communities.

Congress has already made conceptually similar tax relief available to many who defaulted on their mortgages in the aftermath of the crisis and received debt forgiveness from their lenders. It seems only equitable to do the same for homeowners who suffered permanent losses in home value, but did not default.

Modifications to how this deduction operates could make it more accessible to low- and middle-income homeowners and to apply only upon sale of the home to make it more reflective of the actual loss the homeowner realizes.

I make the full argument for this proposition in a law review article called "Counting Casualties in Communities Hit Hardest by the Foreclosure Crisis" available for free download here. Furthermore, policy-makers should consider whether tax-based inducements for home ownership (like the mortgage interest deduction) should be more strategically targeted towards those communities where inducement is actually needed.

Homeowners in the hardest-hit communities can't help but feel shorted. There are, however, ways to begin to reverse their fortunes.

 

 

 

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