The concept of “right to rent” has been floating around Washington for almost four years. Under this proposal, foreclosed homeowners would be allowed to remain in their house as renters paying the market rent, for a substantial period of time (e.g. five years) following a foreclosure. While several bills have been introduced in Congress, President Obama may now have a new opportunity to take the lead on this issue.
The overwhelming majority of mortgages that have been issued since the financial meltdown in September of 2008 have been bought by Fannie Mae and Freddie Mac or insured by the Federal Housing Authority. This has led to an interesting, but predictable, outcome. The most recent data indicate that more than half of the new foreclosures are on houses where Fannie and Freddie either hold the mortgage or have insured the mortgage backed security in which it sits.
Rather than being a problem for banks to deal with, the problem of foreclosures is now primarily a government problem, since the Federal government now owns and controls Fannie and Freddie. This means that President Obama no longer has to beg the banks to allow people to stay in their homes. He can do it himself. And, he can show the banks how to do it right.
The main objection the banks continually raised when they were urged to make modifications rather than foreclose, was the one of moral hazard. If homeowners know that they can get both a lower interest rate and a big principle write-down by missing a few mortgage payments and pleading poverty, then you are giving them an enormous incentive to go this route. Millions of homeowners who are able to pay their mortgage will instead opt for modifications.
The banks did have a point on the policy side. While some of the mortgage debt was held by banks, mortgage-backed securities are held by a wide range of investors including pension funds, mutual funds with 401(k) investments, and university endowments. It’s not obviously good to make these investors take a hit. And even with the banks, if their losses lead to more bailouts it’s the taxpayers who take the hit.
And not all homeowners are struggling moderate-income families who got deceptive loans. Most homeowners are middle-income families who got prime loans.
The politics look even worse. The Tea Party got started by a televised rant over paying “your neighbor’s mortgage.” It proved easy for the right to exploit this image of a gold-plated government handout, even though the actual Obama program was nothing of the sort.
It is in this context that right to rent is largely bullet proof. It is no great handout. People will lose ownership of their home. But it will provide them with housing security for a substantial period of time. And it does it in a way that requires no taxpayer money and no new bureaucracy.
As part of the foreclosure process, homeowners would be offered the opportunity to stay in their home paying the market rent, as determined by an independent appraiser. This is the same sort of appraisal process that banks use when considering a mortgage application. It can also be structured to ensure that millionaires are not gaming the system. The limits can be set so that the option only extends to homes that cost less than the median price or less than 1.5 times the median price in a metropolitan area.
This won’t help everyone. Those who have lost their jobs and have no regular income or savings will find even the market rent unaffordable. However in many former bubble markets the market rent is less than half the mortgage that people who bought near the peak of the bubble would be paying. The switch to renting would make the home affordable and free up money to be spent on other items, boosting the economy. Of course the whole neighborhood gains if the house remains occupied rather than being boarded up as a foreclosure.
It would take a law passed by Congress to create a right to rent for the people losing their home to foreclosure. However, President Obama could unilaterally act to require Fannie and Freddie to go this route.
Fannie and Freddie already have very limited programs along the right to rent model in place, but they are cumbersome in their mechanics and have only been offered to a small number of homeowners. President Obama could tell these government-owned mortgage giants to start offering a rental option to all their foreclosed homeowners.
The government already loses more than 50 percent of the loan value on an average foreclosure, so there is very little potential loss by allowing the rental option. And, if keeps people in their homes and shores up neighborhoods, there will be a very large gain. And, it will provide a good model for the banks.