HDIC: Should we have a Homeowner’s Deposit Insurance Corporation?

It has become very clear that one of the issues restraining the growth of the economy in 2011 is the inability of homeowners to take advantage of low market interest rates on their existing homes because of a drop in the appraised value.

As property values continue to decline, homeowners are left without many options even though interest rates have been driven lower by the actions of the Federal Reserve… A perverse form of mark-to-market accounting has been forced onto a segment of the economy that has no real lobby, and an inability to get regulator attention. The value of a home is set by an appraisal, which must take into account some very pro-cyclical inputs, such as short sales, foreclosures, fraud, and temporary imbalances due to unemployment. Further, homeowners in their original purchasing decision could not use economic analysis to “shop” the relative pricing of homes in a given market where jobs are located, or where economic and social conditions make them desirable. They needed to buy a home in the geographic area where their job is located…

On the other end, are the banks that make the loans to the homebuyers.  These banks, which are forced by regulation to obtain appraisals to validate the purchase price or the value at the point of refinance are helpless in this existing environment of failing home prices.

Deflation of leveraged assets is what the Federal Reserve has been fighting with their QE1 and QE2 programs since the fall of 2008… So while the stock market and comodity markets soar, home prices continue a deflationary trend that trap homeowners with no escape or relief from the very programs intended to help the economy.

In 1933 we faced another deflationary time and the US Govt reacted by creating the FDIC to save the banking industry from fear of further economic deflation… In 2011 it may be time for government to act again, and create a similar guarantee product for the purchased value of real estate equity that has evaporated from the housing market. The program would not be a guarantee on the actual loan made, but rather a guarantee that the value of the home would not decrease, or in the case of an existing refinance; a guarantee on the original home purchase price, or the equity, or down payment originally made on the purchase.

Let’s look at an example:  a home purchased in 2005 for $400,000 would have required a down payment of $80,000, and would have today a mortgage of approximately $330,000 ($340,000 – amortization). That home would probably have a 30 year fixed mortgage at approximately 6.75% or payments of  $2075 per month.. If that borrower could refinance at today’s rates of even a 5.00% rate, they would now have a monthly payment of $1610, saving $5580 annually. . If the homeowner chose to refinance with a 25 year mortgage they would still have an annual savings of $3,864, and an overall savings of $96,600 without extending the life of the mortgage.

The problem, however, is that a new appraisal which will be required for the refinance will probably value the home anywhere from 25 – 40% less than when purchased, or at approximately $300,000,which at a loan-to-value ratio of 80% would only qualify for $240,000, or almost $90,000 less than the original amount.

Interestingly, the beneficiary here is a bank that is taking advantage of the low interest rate environment, but not able to pass along the savings to the homeowner.

Why couldn’t a Home Deposit Insurance Corporaton (HDIC) be created for the purpose of creating a guarantee for just that loss of value; be funded by a nominal fee on all mortgage transactions, with a cap, just like the FDIC, and have an underwriting criteria that rewards those otherwise healthy homeowners to be able to refinance based on their available other assets, and cash-flow, just as the FDIC rates banks on their capital, and earnings?

As homeowner equity is used by 95% of all Small Business Loans, this would also open the spigot for Small Business owners, and the many that would like to start a business, but cannot find the funding…

Home owners and small business owners win from the release of collateral and lower payments, and the economy can finally work off an existing overhang, with no cost to the taxpayer…The efforts of the Federal Reserve will finally make their way to those that have been harmed and need it the most, instead of creating Billions of dollars in profits at those banks that created this mess…

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