The word ‘foreclosure’ has been thrown around a lot. A little heads up, there’s no need to worry!
One of Biden’s first acts as President was to extend protection to homeowners experiencing hardship due to COVD
With a new administration in office, we’re starting to see what issues are in play. Most importantly to us Realtors, their housing-related policies are beginning to be understood.
As expected, one of President Biden’s first acts is extending both COVID-related forbearance protection and the foreclosure moratorium in an attempt to keep those who lost jobs from being thrown out for not making their mortgage payments.
When COVID forced us into lockdown, many lost their means of income.
For a slew of others, COVID may not have cost them their jobs, but their pay decreased sharply when their industries were hit hard.
The shockingly severe spike in initial jobless claims (March 2020) is stark.
When you have that great of a dip in un/underemployment (see the unreal spike in the chart above), everything is impacted, including housing.
Following the lockdowns, people started to make tough decisions about how to allocate their savings into an extremely uncertain future –– and not making a house payment became a choice many had to make.
This brings us to the topic of ‘forbearance.’
Because of COVID, our vocabulary has expanded with terms that we would have never imagined using so often –– ‘flatten the curve,’ ‘herd immunity,’ ‘mRNA,’ ‘contact tracing’ and more. In the COVID housing world, ‘forbearance’ is another one of those terms.
Simply put, mortgage forbearance allows a homeowner to (legally) stop making payments to the mortgage servicer for a period of time, without fear of losing their home in foreclosure.
Forbearance does not absolve the borrower of the debt, it just says, ‘We both know that I can’t pay you right now because of COVID, but I will start paying you again when I have a job and we will work out how to make up the payments I missed.’
Despite what some outlets might be reporting, no one is being pardoned their debt through this system.
Foreclosure (vs. Forbearance)
Although these terms sound similar, they mean different things –– one means ‘relief’ while other means loss.
Forbearance is temporary relief in making your mortgage payment –– foreclosure is the legal process that a lender must go through in order to seize your home for non-payment of your mortgage.
When you’re in forbearance protection, you can skip mortgage payments without fear of foreclosure.
Lending Based on Assets
Excepting 2008, lending money against a physical asset like real estate is one of the safest forms of lending.
Borrowers tend to pay their mortgage above all other types of debts (university loans, medical bills, credit cards, etc.) because everyone wants to avoid homelessness, and foreclosure ruins your credit score.
That’s why banks love to loan money against real assets like real estate.
Besides the fact that most buyers will make a mortgage payment before other payments, there is a physical asset that secures the loan:
- If I (the bank) extend you credit to buy a home and you don’t pay me, I can take your home and resell it to get my money back.
- If I (the bank) extend you credit to pay household expenses or Netflix (i.e. –– a credit card) and you don’t pay me, I can’t really take the food you have eaten or the movies you have watched and sell them to get my money back.
For this reason, loans secured by assets are at lower rates than loans not secured by assets.
Why Appreciation Matters
Additionally, houses are an asset that tends to appreciate in value.
2008 taught us that houses don’t always increase in value, but for the large majority of history (including every year for the past 10 years), housing values have continued in a stable increase.
The equity created by the concurrent reduction of debt and appreciation in the price results in additional value (equity) created by the spread between what you owe and what it is worth. This is important to note when understanding the real risk to the market we are in.
No Fear of Foreclosure, While Forbearance is Here
Yes, it is true that forbearance is up. And yes, it is also true that the President just extended the protections against eviction and foreclosure –– and for utmost of us, this sounds scary.
Again, don’t worry – it’s not scary.
Foreclosures happen when TWO conditions occur:
- The borrower can’t pay their mortgage payment AND
- The house is valued as less than the debt
Without both, foreclosure is not likely.
If the debt owed is greater than the home value, the homeowner will have to write a check to the bank for the difference between the debt and the sales price, when they sell it.
If the debt owed is less than the home value, the homeowner will collect a check for the difference between the debt and the sales price, when they sell it.
That’s a huge difference.
Here are those examples again, but with numbers:
- If a home is worth $400,000 and the debt is $500,000, then the owner is incentivized to allow foreclosure and stick the bank with a $100,000 loss
- If a home is worth $400,000 and the debt on the home is $300,000, then the owner is incentivized to sell the home and pocket the $100,000 gain
It is all about incentives.
If foreclosure occurs while the value of the home is less than the debt owed, where do we stand right now?
From the Urban Institute (urban.org)
Based on the above chart: When the yellow line falls below the blue line (negative equity), people are far more likely to get foreclosed on. When the yellow line is above the blue line, then the owner will sell the home and pay off the mortgage.
Currently the US home market is at the highest collective equity ever.
That being said, foreclosure is far from happening.
The PTSD our nation has from 2008 has created a sentiment that still lingers. The fear that when prices increase quickly, bad things are around the corner.
But just because prices rise, they are not destined to soon fall at the same rate.
As a whole, we often remember the pain, but forget the reasons. The housing crisis of 2008 certainly created a toxic mix of conditions that led to prices collapsing –– but those conditions don’t exist today.
To offer some perspective: Depending on whose research you want to believe, our current housing under-supply is as severe as the 2008-2010 housing over-supply.
The good news is that since foreclosures tend to move inversely with home price appreciation, and home prices aren’t likely to head down anytime soon, we’re safe from foreclosure.
Right now, the lack of housing inventory is causing prices to skyrocket more rapidly than any other time in history and as equity increases, delinquent homeowners sell in lieu of electing foreclosure –– and this condition is unlikely to change in any meaningful way for the foreseeable future.
Articles such as this disingenuously deceive the reader in an attempt to garner clicks.
Hard to predict events can bring rapid changes to any market, but the threat to today’s housing market is not too many foreclosures.
Will there be a few additional owners who end up losing their homes when forbearance ends? Possibly. But it’s not likely you’ll notice.
Don’t let those who are uninformed frighten you about some coming wave of foreclosures. Their fears are misplaced and misinformed.