Will the Real Estate Investor Please Stand Up?

There has been quite a bit written in the blogosphere about the “bailout” of our crumbling financial system. I don’t much feel like rehashing what’s been written, but I would like to state my opinion and cite some of my favorite blogposts on the topic, as I have had some time to ponder the issues. And finally, I would like to explore how this affects the real estate market and real estate investing.

First off, when I first heard about the proposed “bailout”, my gut reaction was that a bailout of any sort goes against the notions of free markets and capitalism. You mess up, you pay the price. You do well, you get rewarded. Isn’t that why immigrants come to this country? It sure is why my parents and I came here when I was 14: the opportunity to make something of yourself and your life, regardless of your connections to the KGB. What kind of message are we sending to corporations and other entities? It’s OK to fail. Your job is safe, the taxpayer will bail you out. Corporate greed is OK too.

Then I thought about it, and perhaps some kind of action plan is necessary (well, it was necessary a while ago, but our leaders were too busy telling us that the fundamentals are strong). What we need is not a bailout. Something different. Not sure what, yet. If the financial markets keep spiraling down into this vortex, the impact on the country’s economic health could be catastrophic. But how catastrophic? Would it be more damaging than the $700 billion + bailout is to the taxpayer’s wallet? It’s hard to say. But what if this bailout still doesn’t solve the problem? That’s entirely possible too. To ensure that it works, there needs to be a stronger plan of action vs. a fuzzy “blank check” approach. I find Robert Reich’s blogpost the most illuminating writing on the topic in terms of a strong action plan and concrete rules and oversights to be put in place.

Finally, Paulson’s connections to the Street make the whole thing appear just a bit too fishy for my taste. And the Section 8 is just the last straw. It reads exactly like this:

Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency.

Did that make anyone else’s hairs on the back of the neck stand up? Eeeekkk! We are headed towards something very very bad in this country. We are allowing an ex-Goldman guy to have unilateral control (without being reviewed by a court of law!!) to make decisions on the Wall St. bailout. That would make it very easy to cover stuff up, wouldn’t it? Hmmm…. And no one can investigate…

When did it become OK for the American public to give up all control of their lives and decision making to folks who supposedly should be acting in the interests of the public, but have way too much conflict of interest to actually do so? How did we allow ourselves to be scared into Patriot Act and the Iraq war? And now we are being scared into passing this piece of steaming shiitake? Are we still a democracy? Sure doesn’t feel like it. Feels like we are headed towards a dictatorship, a military state. I am exceedingly concerned for this country and the ease with which the American Dream and Democracy are being annihilated in front of our very own eyes. Our founding fathers must be rolling over in their graves.

So… I must somehow bring this back to real estate and real estate investing. How does this affect real estate investing? Well, in the same way as this whole mess has been affecting real estate for the past year or so (this mess started in real estate, if you remember). It is close to impossible to get a mortgage for an investor (and now, as of Dec 1, Fannie won’t allow to finance more than 4 properties per person, including primary residence). So forget about conventional channels. If you want to take advantage of good deals, you must learn and implement creative real estate investing (seller financing, subject-to, private lending, etc.)

Everyone is cautious, however; homeowners and investors are waiting for the market to hit bottom before moving. And now that the sky is falling, and we seem to be writing a blank check signed by the American Taxpayer, Joe Investor who is hoping to work the foreclosure market and get some cashflow properties is a bit more afraid of his future and is a bit more hesitant to act. Investing for cashflow, if you follow creative real estate strategies, remains a viable strategy. As far as other exit strategies, it’s a bit more dicey…  Jim Homeowner to whom Joe Investor hopes to sell his rehab is also more hesitant; he is more concerned about keeping his job than straddling himself with a new liability in the form of a new house. And now that Jim Homeowner is funding a bailout of epic proportions, well, there goes his saved up 20%+ downpayment that he now needs to buy a house.

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Well, project Lifeline was formally announced today by Treasury Department and the Department of Housing and Urban Development. As mentioned before, it halts for 30 days foreclosure proceedings for homeowners in default for over 90 days. The idea is to give homeowners and lenders some additional time to work out better loan terms.

It looks like so far it’s a pilot involving 6 of the largest players in the mortgage industry: Bank of America, Citigroup, Countrywide, JP Morgan, Washington Mutual and Wells Fargo. The hope here is that the rest of the lenders will follow suit. These 6 lenders have already been involved in the Hope Now alliance, an effort organized by the Bush administration, to keep subprime ARMs from resetting. The Hope Now alliance states that it helped 7.7% of 7.1 million subprime borrowers (or 545,000 borrowers) during the back half of 2007. This was done through permanent loan modifications (such as lower interest rates) and negotiation of repayment plans.

Unlike Hope Now, Project Lifeline addresses all mortgages, not only subprime. Project Lifeline does not apply to vacant properties, investment properties, or homeowners in bankruptcy proceedings or facing a foreclosure date within 30 days.

So the whole thing makes me wonder: If this actually a viable solution or is this a “photo op” for our politicians? After all, perception is everything, especially in this election season. And we are, after all, headed towards a recession… So it’s important to at least look like we are doing something.

Project Lifeline just may be a logistical nightmare for the lenders. How will they handle all these homeowners calling them over the next 30 days? And how will anything actually get resolved in 30 days? Borrowers and investors negotiating on their behalf have already been having a difficult time getting lenders to respond; short sales take “forever and a day” to negotiate. There are just too many foreclosures. And there will only be more.

And will homeowners actually take action? The real issue here is that there is limited incentive for those in foreclosure to do anything about it. Now that home values have plunged, many homeowners are “upside down” on their mortgages, owing more than their homes are worth, and having withdrawn all equity during the “boom times”. It’s becoming easier and more rewarding for the homeowner to just walk away. The proverbial ATM is empty.

As we all know, “what goes up, must come down”. By some accounts, home values are down for the first time since the Great Depression. Home values had skyrocketed over the past number of years, growing at a rate far exceeding average salary growth. So to afford the American Dream, citizens of America had to get into mortgages that overextended them, often getting into ARMs with low initial rates that were scheduled to reset, only delaying the inevitable. All for a chance at the American Dream! Can we blame them? And can we blame the lenders for trying to help (not saying that all lenders are selfless).

Even more disturbing is the natural propensity of our culture to use home equity as an ATM, forsaking all reason. It is not all lenders’ fault, even though it has become popular to point fingers at these “unscrupulous” bankers. These are just some of the reasons why we are in this mess. Call me cynical, but I really doubt that a 30-day time-out will do a whole lot.

Within the hour, Secretary of the Treasury Henry Paulson is due to announce the Foreclosure Rescue Plan. This plan is aimed at temporary relief to homeowners in foreclosure. It mandates a 30 day “time-out” for those who are 90+ days behind in their payments. These 30 days will give the homeowners in default time to negotiate a win-win solution (or any kind of solution) with their bank. For now, Bank of America Corp., Citigroup Inc. and four other U.S. lenders will announce their alignment with this new plan. It is not yet clear if other lenders will follow suit. My guess is that they most certainly will.

More on this tonight!

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