Time to tackle the real evil: too much debt

http://www.ft.com/cms/s/0/4e02aeba-6fd8-11de-b835-00144feabdc0.html?nclick_check=1

by lackbeard • 17 years ago

8 9 17 years ago

skushch• 17 years ago

So I'm somewhat confused with the article's suggestion that:

"The only solution is to transform debt into equity across all sectors, in an organised and systematic way. Instead of sending hate mail to near-insolvent homeowners, banks should reach out to borrowers and offer lower interest payments in exchange for equity."

As I understand it, most that will walk away from their homes are upside down, meaning they owe more on the property than it is worth. That is also the reason that they're unable to refinance.

So the authors suggest that the bank lower the interest on the loan in exchange for equity which the homeowner has none of?

sokoloff3• 17 years ago

Imagine you bought a million dollar house, with nothing down (for simplicity's sake).

It's now worth $900K and you're considering walking away.

What if the bank took 15% ownership of your house, in exchange for reducing the principal balance to $800K? You'd pay less on your mortgage (balance of $800K instead of $1000K), and while you'd be slightly upside-down (you'd owe $800K on $765K worth of house), you're still much closer than when you were $100K in the hole. (Plus, you don't have the PITA, stigma and credit rating destruction of getting foreclosed on.)

Fast forward a few years and you can sell the house for $950K and decide to do so. You get $807K, the bank gets $142K (compensating them partially for forgiving $200K of your original balance in exchange for the 15%). In almost all cases, that delayed $58K loss is better than an immediate $250K loss from foreclosing and selling for $750K or so.

That's but one way to accomplish the debt-to-equity exchange.

anamax4• 17 years ago

> Fast forward a few years and you can sell the house for $950K and decide to do so. You get $807K

Hmm - no. You get a little bit over $7k. You still have to pay off the mortgage, and very little of that happens in the first few years.

Note that you're assuming another housing boom because you need it to make the "equity forgiveness" look less insane.

The big problem is the assumption that these folks can pay an $800K loan yet a $1M loan is completely out of their range. For a small minority, maybe but most of the people in this situation can't afford the $800K loan either.

Yes, some folks are bailing on loans that they can afford, but the vast majority of foreclosures involve people who can't afford their loans. They're not 20% away from making it, they're 50-70% away. (Banks don't foreclose on folks who are current.)

gasull• 17 years ago

As I understand it, most that will walk away from their homes are upside down, meaning they owe more on the property than it is worth. That is also the reason that they're unable to refinance.

So the authors suggest that the bank lower the interest on the loan in exchange for equity which the homeowner has none of?

Maybe this is intended for homeowners that don't owe more than their property is worth, but they are getting closer as housing prices go down.

For homeowners than owe more than the property is worth, the debt should be renegotiated if the banks want to get any money out of them.

http://www.youtube.com/watch?v=3pwAFohWBL4

anamax4• 17 years ago

> For homeowners than owe more than the property is worth, the debt should be renegotiated if the banks want to get any money out of them.

What about the people who didn't "buy dumb"? Why should they pay to keep said "homeowners" in houses that they never could afford?

Time to tackle the real evil: too much debt

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