The Unintended Consequences of Treasury's HAFA Program
HAFA is just flawed legislation aimed at pacifying outrage rather than offering real solutions to the housing market.
On April 5, HAFA became a law, representing the Federal government's latest assault against the depressed residential housing market. HAFA aims to provide options for homeowners unable to qualify for loan modifications through the Home Affordable Modification Program, or "HAMP," which was the last government-backed foreclosure prevention initiative.
Indeed, the foreclosure epidemic in this country remains a pressing issue, as recent data indicate that more than 5 million households are behind on their mortgage payments, with almost 3 million households 90 days or more delinquent but not yet in foreclosure.
HAFA attempts to step in where permanent modification via HAMP isn't a viable option, offering incentives to lenders, servicers, and distressed homeowners in the hopes that foreclosures can be cut off at the pass. The primary mechanisms HAFA promotes are short sales, where the lender allows the homeowner to sell his or her home for less than the mortgage amount, and deeds-in-lieu of foreclosure, or "DILs," where the homeowner hands the lender the keys cooperatively in exchange for the lender agreeing not to pursue back payments. These alternatives are believed to be less damaging to a homeowner's credit.
While some homeowners will be assisted by HAFA, each group affected by the legislation could see unintended consequences that mitigate the program's good intentions.
1. Distressed Homeowners
HAFA's primary goal is to help distressed homeowners. Noble enough, but will the program be effective? First, to incentivize homeowners to cooperate in short sales, Uncle Sam (read: taxpayers) is offering a $1,500 payment for "relocation assistance." This payment is on top of cash assistance lenders often provide short selling homeowners.
From my experience, however, the decision to short sell isn't typically one that's easily swayed by $1,500. If the government wants to help homeowners start over, every little bit helps. But if the aim is to encourage more short sales, this amount of money is but a drop in the bucket and successes will be few and far between.
Second, and almost more important, it's not even clear short selling truly benefits the homeowner in all cases. Even though the IRS revised rules that previously treated the forgiven loan as taxable income, many states are behind the ball. For example, in California, if a homeowner short sells his home for $400,000 with a $500,000 mortgage outstanding, at year end he could face $100,000 in additional taxable income. A proposed amendment to this law is in limbo because Governor Schwarzenegger has threatened to veto due to an unrelated provision in the bill. For those seeking to enter a short sale, tread lightly and seek tax counseling before agreeing to anything.
2. Lenders/Mortgage Servicers
HAFA also tries to further incentivize lenders and mortgage servicers (who collect payments and administer modification and/or foreclosure proceedings on behalf of lenders) to avoid foreclosure. Lenders and servicers receive a $1,000 bonus for each short sale and Uncle Sam (read: taxpayers) will cough up $1,000 to second lien holders in order to get them to play ball. Second lien holders can gum up short sales by demanding payoffs first lien holders aren't willing to make. Washington hopes this token payment will encourage second lien holders to cooperate, but in reality a mere $1,000 may not be enough to coax second lien holders to take their lumps.
In addition to making short sales more palatable, HAFA makes the foreclosure process even more onerous than it already is. Additional notification to borrowers, a required HAMP review of each file and other hurdles to completing foreclosure aim to push more lenders in the direction of short sales or DILs.
3. Non-Distressed Homeowners
Some of HAFA's major impacts, to the extent it is successful of course, will be felt by homeowners seemingly untouched by the legislation: non-distressed homeowners.
While the government wants to delay foreclosures, short sales flooding the market could put downward pressure on home prices. For each successful short sale or DIL, that's one additional home dumped onto the market. Currently short sales are viewed by many buyers as not worth the hassle and that they shouldn't be treated as true supply. If word gets out, however, that lenders are actually cooperating, short sales may lose their negative stigma and start to more strongly impact prices.
Mortgage-paying homeowners could see their property values continue to fall thanks to government efforts to speed short sales to market.
4. Once Again, Taxpayer Loss Is Realtor Gain
No analysis of HAFA would be complete without mention of the National Association of Realtors, or "NAR," which continues to demonstrate it's lobbying prowess.
In addition to supporting the legislation because more short sales means more transactions and more commissions for Realtors, the NAR lobbied aggressively for the inclusion of a provision preventing lenders from lowering a Realtor's commission in a short sale below 6% of the sales price. In distressed transactions, a 5% commission has become the defacto rule, a trend which, much to the NAR's chagrin, is causing commission compression across even non-distressed housing markets.
Thus, HAFA hands lenders, servicers, and homeowners taxpayer dollars, even as it mandates that real estate agents earn more money on each transaction.
So how will it all end? Ultimately, the aforementioned effects will only be felt to the extent the program is an actual success. Will small handouts across many transactions cause actual change?
Will HAFA promote Washington's stated policy of propping up home prices? Will flooding the market with new short sales add to the backlog of distressed homes working their way through the system or fail and further delay the inevitable normalization of the market?
Time, of course, will be the true arbiter of the debate, but I'll be monitoring the program's successes... and failures.
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