"A Needless Housing Collapse"

Here's an antidote to the notion that has been aggressively pushed by such sources as the Wall Street Journal's op-ed page and  CNBC's Larry Kudlow that the mortgage crisis was the fault of borrowers and the government, rather than primarily a market failure and eventual collapse triggered by private lending agents who found ways to make short-term profits from aggressively pushing bad loans. The article also shows a promising policy moving forward for borrowers who are in trouble.

From Alyssa Katz at Think Progress:

John Smith's four-bedroom house stands tall on Cleveland's East Side, its tidy cream siding and green lawn oblivious to the devastation that has scarred the surrounding neighborhood. It is everything thousands of foreclosed homes in the area are not: occupied, intact, and still an asset to the family that lives in it. Smith purchased the home in 2005 through a nonprofit dedicated to repopulating the city with working- and middle-class homeowners. But Smith's investment was one of a few drops in a bucket with no bottom: The census tract he lives in, with about 600 homes, has seen more than 200 foreclosure sales in the past 15 years. "We know the inner city is the inner city, and it's no big surprise to us," Smith says. But even he is stunned at the level of devastation around him. "Whole neighborhoods are almost totally down."

The Smith family has come close to the precipice. In 2008, Smith, then 38, lost his job as a financial analyst for a bank and had trouble paying his mortgage. His credit-card debt shot into six figures. When his lender initiated foreclosure proceedings that December, the notice was a month late because the bank did not have the correct address on file for its own borrower.


Smith could have ended up like another Cleveland homeowner, truck driver Larry Saulsberry. In 2004, Saulsberry got a letter from a mortgage broker, offering to help him extract cash from the home he had owned since 1972. Saulsberry refinanced his old mortgage, on which he owed just $16,000, for a new one at $88,000 and higher interest rates, intending to use the proceeds to buy a new truck and bankroll badly needed repairs on his 90-year-old home. "Desperate people," Saulsberry explains, "do desperate things." Only after he had signed the papers did Saulsberry discover that he had paid his broker nearly $10,000 in fees that had not been previously disclosed and that his payments to Argent Mortgage were $1,100 a month, not the promised $800 -- and what's more, the interest rate would adjust in the future. In 2008, the county sheriff sold his beloved home.

A twist of fate saved Smith. After receiving the foreclosure notice, he called his lender, which sent him to Fannie Mae, which would only say that the mortgage was held by a "private investor." A month later, Fannie finally gave him a number in Durham, North Carolina. On the other end of the phone was a counselor from Self-Help, the nonprofit organization that unbeknownst to Smith -- and nearly 52,000 borrowers like him -- had adopted his mortgage under a program that bought affordable home loans from banks under strict guidelines Self-Help had created. Self-Help shepherded Smith through a loan modification.

Smith is employed again, but far from liberated. The house that he bought in 2005 for $218,900 is now worth half that, putting Smith among the nearly one in four of all mortgage borrowers who owe more than their home is worth. It's no accident that Smith has been able to weather the storm of the foreclosure crisis while similarly indebted neighbors succumbed. Thanks to Self-Help, his mortgage had a fixed interest rate, where as Saulsberry's was adjustable. Modest closing costs were clearly disclosed. And Smith obtained his loan from a bank, not a broker. The features of Smith's loan were standard on mortgages sponsored by Self-Help.

Self-Help was founded in 1984. In 1998, it teamed up with Fannie Mae to make custom-built safe loans available to high-risk borrowers from coast to coast. The Ford Foundation made the project possible through a $50 million grant that Self-Help used to guarantee the mortgages. The partnership sought not just to help the relative handful of borrowers the organization could aid through its purchases of affordable mortgages from its bank partners but to transform the lending business just when subprime lending was surging as a malign alternative. Self-Help demonstrated that it was a sound business proposition to design mortgages that vulnerable borrowers -- many already struggling with high debts and low incomes -- could actually pay.

Since then, with additional funding from Ford, a team of researchers at the University of North Carolina has tracked a sample of borrowers whose loans were purchased from their original lenders by Self-Help. The 3,700 Self-Help borrowers under the microscope look very much like subprime America. Four in 10 are black, Latino, or Asian, and most have annual incomes between $20,000 and $50,000; the typical borrower earns just 62 percent of his area's median income.

At first glance, the Self-Help loans look rather like the toxic mortgages that devoured John Smith's neighborhood. The median borrower took out a loan for 97 percent of the purchase price, leaving home buyers heavily leveraged. A near majority had to pay more than 38 percent of their income toward debts. Many had questionable credit ratings.

But if Self-Help mortgages appeared similar to subprimes in their loose qualifying standards for borrowers, the mortgages themselves couldn't have been more different. Self-Help mortgages carry fixed interest rates, and they do not include the toxic features that sabotaged many subprime borrowers, such as penalties for refinancing. What's more, borrowers' income and assets were fully documented. Risks were based on fact, not fantasy.

Thirteen years later, in the rubble of the foreclosure crisis, the Self-Help experiment makes it possible to answer the great "what if": What if the borrowers who succumbed to subprime mortgages had received soundly structured loans instead? Tracking borrowers in real time, first during the housing bubble and then through the bust, the research has given the world unique insight into why some homeowners were equipped to weather the credit bubble while others quickly went bust.

The answer, quite simply, is that borrowers who had fixed-rate loans without hidden costs were far likelier to hold on to their homes. Subprime borrowers with adjustable-rate mortgages have cumulatively faced a "serious delinquency" rate approaching 40 percent, meaning that four out of 10 borrowers ended up at least three months late on their mortgages. From there, it's usually very hard for them to avoid foreclosure. By contrast, only 8.5 percent of Self-Help borrowers -- in the same cities and with the same financial profiles -- have fallen into such deep trouble, and fewer than 5 percent have ended up losing their homes to foreclosure.

"In the statistical analysis, we were able to isolate the risks of the mortgages from the risks of the borrowers. What we learned is that mortgage products can amplify the risks or minimize the risks," says Roberto Quercia, principal investigator and director of the Center for Community Capital at the University of North Carolina. "The right product is crucial."

The experiment has much to offer the Obama administration as it rebuilds a broken system of housing finance, in the midst of ongoing partisan warfare over what caused the mortgage market to collapse in the first place. Blaming the Community Reinvestment Act -- the 1977 law that calls on federally regulated lenders to meet the credit needs of entire communities -- remains popular blood sport among Republicans, pandering to racist stereotypes about minority homebuyers. The facts are poised to speak more loudly, if anyone chooses to listen...