REQUIRED READING: As the Federal Housing Finance Agency (FHFA) considers alternative strategies for selling government-owned distressed property, a debate wages on regarding the best way to balance the neighborhood-stabilization interests of local communities with servicers and asset managers' desire to shed inventory.
And without fail, that debate inevitably leads to discussion of the strategies servicers use to market their real estate owned (REO) assets and, in turn, how those strategies help determine the scale and makeup of the REO buyer population.
A push-pull dynamic appears to be emerging. On one side of the argument are those who advocate removing barriers to broader participation by investor buyers. On the other side are those who say more attention must be paid to owner-occupant buyers.
Although REO experts appear to be in agreement that certain buyer classes are at a competitive disadvantage when it comes to bidding on properties, there is a distinct lack of consensus on whom, exactly, the deck is stacked against – investors or homeowners.
Caught in the middle of this debate are REO sellers, including servicers, that strive to maximize sales recoveries and contain their holding costs by minimizing properties' days on the market. Increasingly, REO sellers are being called upon to consider the societal impacts of their disposition strategies, specifically those that are perceived as creating an uneven playing field for owner-occupant buyers.
Much of this discussion appears to have been inspired by the FHFA's August 2011 request for information (RFI) on REO sales. Dealing exclusively with properties owned by Fannie Mae, Freddie Mac and the Federal Housing Administration (FHA), the RFI sought comments on how to structure a request for proposals that leverages private-sector capital and property management know-how to handle government-owned REOs.
More than 4,000 responses later, the FHFA has yet to signal a firm direction to the market. In November, the agency provided an update in which it said it was "proceeding prudently but with a sense of urgency to lay the groundwork for the development of good initial pilot transactions."
The recent chatter around alternative REO disposition efforts prompted San Diego-based New Vista Asset Management to study owner-occupancy trends in 18 hard-hit counties. Studying data from Q1 2009 through Q3 2011, New Vista found that the percentage of REOs sold to owner-occupant buyers has fallen in most counties and precipitously so in some areas, such as Los Angeles County.
Over the three-year period, the percentage of single-family REOs in Los Angeles County sold to owner-occupants fell from just shy of 80% to 60%. During that same time frame, the number of counties where owner-occupant sales accounted for less than half of the single-family REO deals rose from one (Wayne County, Mich.) to four (Maricopa County, Ariz.; Osceola County, Fla.; Miami-Dade County, Fla; and Clark County, Nev.).
A major factor contributing to the drop-off among owner-occupant deals is that fewer properties are coming to market in FHA-financeable condition, according to Brian Hurley, New Vista's president and chief operating officer.
"It's not necessarily a question of lack of demand on the part of an available purchaser class," says Hurley. "It may be a lack of access for them, because the houses are presented in a condition where they couldn't buy."
With FHA financing still the predominant option for many prospective homeowners, the failure to bring REOs up to FHA standards represents a lost opportunity for servicers to help stabilize communities. High rates of homeownership correlate to lower crime rates, better education attainment, improved property condition and other societal benefits, Hurley says.
The increased investor presence in the REO space risks erasing the community development progress of nonprofits in recent years, according to Kevin Stein, associate director of the California Reinvestment Coalition.
"We are troubled by the significant drop in owner-occupant purchases of REO properties in these hard-hit markets, which is no doubt compounded by decreased access to credit and a failure to repair foreclosed properties to move-in condition," Stein said in a press release announcing the findings of the New Vista study.
Putting purely altruistic motives aside, the decision to make REOs available for FHA financing holds a financial upside for sellers, contends Hurley, who says investor buyers are currently capitalizing on the opportunity to rehab homes and sell them at a profit or hold them as income-producing rental units.
"If there is such an incredible amount of appetite on the part of investors to buy homes, fix them and turn them, then that seems to suggest there are arbitrage opportunities in the marketplace and that the price differential could be captured by the lender itself if it made those repairs and realized the positive returns," he says.
Figuring out an appropriate standard for repairing REO properties is "the No. 1 policy discussion that has never really entered the dialogue on the part of mortgage folks," Hurley adds. The New Vista study, which included data on REO sales by banks, the U.S. Department of Housing and Urban Development (HUD), Fannie Mae and Freddie Mac, observed a "great disparity" in terms of REO sellers' owner-occupancy execution rates, he says.
Eric Lichtenheld, president of Tucson, Ariz.-based brokerage firm Integra Group Real Estate, says he has observed a decline in the number of properties that are of FHA quality. Running the numbers back three years for the Southern Arizona market, Lichtenheld says the ratio of homes that are in owner-occupant condition versus homes that are in cash-buyer condition peaked in 2008, at 3 to 1. Now, there are approximately 1.4 owner-occupant quality homes for every cash-buyer home available.
In November 2011, 27% of Integra's deals involved cash buyers, and 30% of its sales were financed with FHA-insured loans.
Bringing a property up to FHA condition can reduce the days a property spends on market by as much as 30%, says Lichtenheld. Additionally, owner-occupant-quality homes are often subject to multiple offers, which potentially drives up the ultimate sales price.
"Certainly, the larger servicers understand the importance of homeownership, and we're seeing a shift into a lot more repair recommendations for marketing – which is what we like, because we think it optimizes their return and lowers the days on market," he says.
(Tomorrow, part two of this series will consider the FHA 203(k) program's impact on this issue.)
John Clapp is a former editor of Servicing Management.