Real Property Finances

Real Property Finances Mortgages – the Primary Mortgage Market Mortgages – the Secondary Mortgage Market

Primary mortgage market Secondary mortgage market • You Lending institution FNMA, FHLC Investors • $ • $ • $ • $ • $ • $

Principal domestic policy goal of the federal government • Principal economic investment of many individuals • Ownership • Pension funds • Debt is an economic commodity

Domestic Federal Policy • Federal Housing Policy and Preservation (Fannie Mae Foundation, n.d.) • The Housing Finance System and Federal Policy (Congressional Budget Office, 1983) • A New Generation of Federal Housing Policy (Brookings Institute, 2009) • Housing policy in the United States: an introduction (Alex Schwarz, 2006) • Congressional Oversight Panel Releases Oversight Report on Foreclosure Mitigation • (beSpacific) • Who Regulates Whom? An Overview of U.S. Financial Supervision (CRS, February 24, 2009) • Economic Indicators: Housing Starts

Legislation/Regulation affecting home ownership • Some more directly involved in home ownership – financing, fair housing – than others – asbestos, transportation • United States Code • Code of Federal Regulations

Legislation promoting home ownership • Home Energy Assistance Act of 1980 • Home Equity Loan Consumer Protection Act of 1988 • Home Health Care and Alzheimer's Disease Amendments of 1990 • HOME Investment Partnerships Act • Home Mortgage Disclosure Act of 1975 • Home Mortgage Relief Act • Home Owners' Loan Act • Home Owners' Loan Act of 1933 Renamed Home Owners' Loan Act • Home Ownership and Equity Protection Act of 1994 • Homebuyer Assistance and Improvement Act of 2010

Legislation promoting home ownership • Fair Housing Laws and Presidential Executive Orders - HUD • History of Fair Housing - HUD • United States federal housing legislation (Wikipedia) • Fair Housing Act of 1968 • National Housing Act of 1934 • Real Estate Settlement Procedures Act (Wikipedia)

Federal Housing Agencies • Housing (U.S. Department of Housing and Urban Development) • Federal Housing Administration • Federal Housing Finance Agency • Fannie Mae • Freddie Mac

Inequality in upscale Blue America (Star Tribune March 28, 2014)

Patrick.net • National Association of Home Builders • National Association of the Remodeling Industry • National Association of Realtors • United State housing bubble (Wikipedia) • Housing Bubbles and Homeownership Returns (Federal Reserve Bank of San Francisco) • Audit of the Department of Justice's Efforts to Address Mortgage Fraud • Understanding the Housing Market Crisis (Investment U) • The Government Mortgage Complex (American Enterprise Institute) • Housing Finance and the 2008 Financial Crisis (Cato Institute)

Minneapolis Star Tribune <mortgage> 4160 stories • Minnesota Public Radio <mortgage> 1090 stories • Minnesota North Star <mortgage> 9289 hits • USA.gov <mortgage> 10,600 hits

References • How Mortgages Work (howstuffworks) • Think Glink (Ilyce Glink) • All about mortgages (Federal Home Loan Mortgage Corporation) • Mortgage Glossary (US Department of Housing and Urban Development) • MortgageNewsDaily.com (Brown House Media) • Commercial mortgages (Wikipedia) • Construction Loan (Wikipedia) • Mortgages for Home Buyers and Homeowners (USA.gov) • Housing and Mortgage Assistance ( Minnesota Attorney General) • An Overview of the Housing Finance System in the United States (GAO March 2013) • How Would Reforming the Mortgage Interest Deduction Affect the Housing Market? (Urban Institute March 2013)

Mortgage (Bankrate.com) • A loan secured by a legal interest in real property, commonly the fee title • Most often made to individuals or corporations to acquire that interest • The most common means of financing the purchase of real property • The borrower conveys the interest acquired in that real property to the mortgagor as security for the loan, in effect creating an encumbrance, a mortgage lien • The mortgage is usually recorded in the county courthouse – becomes part of the public record

Financial institutions originating loans • Virtually anyone, including individuals, may make a mortgage loan – contract for deed • Residential mortgage originators – except federally regulated financial institutions – in Minnesota need a license • Mortgage companies - Mortgage Brokers - financing professionals who act as intermediaries between consumers and lenders - usually have a working relationship with numerous banks and other lenders and provides the consumer with access to financing options. Minnesota Mortgage Association • QuickenLoans • Lendingtree • Countrywide Financial • Personal HomeLoanMortgages

Financial institutions originating loans • Banks (Wikipedia) regulated by the Board of Governors of the Federal Reserve System • Mortgage Bankers Association of America • Wells Fargo • Bank of America • US Bank • Credit Unions regulated by National Credit Union Administration • Minnesota Credit Unions • MidMinnesota Credit Union • Affinity Plus

Financial institutions originating loans • Savings and Loan Associations – often called “thrift institutions” • Minnesota Savings and Loan Associations Companies • Savings & Loan Industry, US (EH.net) • The Savings and Loan Crisis (Federal Deposit Insurance Corporation) • The S&L Crisis: A Chrono-Bibliography (Federal Deposit Insurance Corporation) • Savings and Loan Crisis (Wikipedia) • Federal Home Loan Banks 12 U.S. government-sponsored banks that provide stable, on-demand, low-cost funding to American financial institutions - banks, credit unions, community development institutions - for home mortgage loans, small business, rural, agricultural, and economic development lending • FHLB Des Moines

Financial institutions originating loans Minnesota Housing Finance Agency - Established in 1971 an agency of the State of Minnesota tasked with reducing and/or eliminating homelessness, increasing home ownership for minorities, and increasing and preserving affordable housing Minnesota Housing Finance Agency (Minnesota Office of the Legislative Auditor)

Basic components of a mortgage • Property – the real estate being financed – land and structure(s) – possesses value – enough to allow the lender to recoup investment • Mortgage – the security created on the property by the lender – also promissory note • Borrower – the person(s) borrowing who either has or is creating an ownership interest in the property – a mortgage lien – possesses an ability to pay • Lender – the entity loaning the money – payback and appraised value of property (New rules for real estate appraisers Federal Reserve Board)

Principal – the original size of the loan, which may or may not include certain other costs e.g. down payment – declines as loan is repaid • Interest – a financial charge for using the lender's money • Amortization schedule – schedule of payments for the loan, includes principal and interest over a period of years • Payments may include property taxes and property insurance (PITI)

Personal Situation • My ex-wife and I possessed fee title, as tenants in common, to abstract property on which a residential structure exists (house), on a 4.7acre parcel adjoining Hornbeam Lake in the City of Sunfish Lake, Dakota County, MN • We acquired title to this real property in 2001 by warranty deed from another couple – (selling a previous house) • We acquired a 30 yr fixed rate mortgage to buy the property and, in December 2002, satisfied (paid off) that mortgage and took out another with a lower interest rate • At the same time we acquired a home equity line of credit

Mortgage • We had two mortgages • A fixed rate 30 year mortgage • A line of credit which was based upon the value that we then had in the house (equity) • Mortgage involves two legal entities • a lender (creditor, mortgagee) and a borrower (debtor, mortgagor) • AND • a real property interest (the residential structure) – land often not included for mortgage purposes (but is for property tax purposes)

Mortgage • Comprises two necessary contractual elements • A debt – a financial institution lends money to individuals who possess an interest in real property • A consideration for the debt • The debtor, conveys a “security” interest to the creditor • This "security" interest simply backs up, or collateralizes, the financial obligation incurred by the landowner – the value of the structure • The legal document describing the mortgage is a mortgage deed – usually recorded in the county courthouse • Along with this document is a promissory note in which the details of how the mortgage will be repaid are spelled out – the monthly payment of the principal and interest – called an amortization schedule – not normally filed for public record

Mortgage • In most states title passes to the purchaser while the lender possesses a mortgage, a type of lien • The purchaser has rights to exercise all of the real property rights appropriate to the jurisdiction in which the real property is located • In a few states title to the property remains with the lender until the loan is paid • Map of states

Terms of Mortgages • Vary greatly in terms of • the amount of money loaned – the principal – based on the value of the house & the ability of the lender to repay loan • the rate of interest & whether the interest – the cost of borrowing the money - is fixed or variable • the period of time for repaying the loan – usually 30, 15, 7 years • But the variations are virtually endless

Terms of Mortgage • Fixed rate mortgages - the interest rate on the mortgage loan is fixed for the life of the loan • Adjustable rate mortgages (ARM) - the interest rate is fixed for a specified period of time and then varies, usually within a minimum and a maximum figure • Home equity loans - Wells Fargo Home Equity financing • Reverse mortgages - the owner sells a real property interest to a financial institution and receives a monthly sum of money. Reverse.org • Possessing several loans may involve them being prioritized - “first”/“senior” or “second”/junior mortgages • Minnesota Mortgage Chart (NFNS)

Types of Mortgage • A. Conventional Mortgage • B. Guaranteed Mortgage – one in which an entity, such as a federal agency, guarantees, or insures, repayment of the mortgage loan in the event the homeowner is unable to pay • Since 1934, the Federal Housing Administration (FHA) has helped build and maintain healthy, prosperous neighborhoods, and expand opportunities for affordable home ownership and rental housing through insuring loans • Consolidated into the Department of Housing and Urban Development's (HUD) Office of Housing in 1965, the FHA continued its core mission • FHA is the largest mortgage insurer in the world. FHA Loans

HUD's Mortgage Insurance Programs • HUD doesn't make loans directly but rather insures the loans made through an approved commercial lender - a bank, mortgage company, or savings and loan association • When someone with a HUD insured mortgage can't meet the payments, the lender forecloses on the home • HUD pays the lender what is owed, takes ownership of the home, and sells it at market value as quickly as possible • Section 203b Mortgage • Section 255 Home Equity Conversion Mortgage for Seniors – reverse mortgage • Section 203k Rehabilitation Mortgage • Energy-Efficient Mortgage Program • Section 248 Indian Reservations and Other Restricted Lands • Title I Home Improvements

HUD's Special Homebuying Programs • Officer Next Door • Teacher Next Door • Public Housing Home Ownership programs • Homeownership Vouchers • Financing Manufactured (Mobile) Homes • Faith-Based and Community Initiatives • Other Federal Mortgage Insurance Programs • Veterans Affairs Home Loan program • USDA Rural Development Housing programs helps rural communities and individuals by providing loans and grants for housing and community facilities

Words in the News - Subprime • The Prime Interest Rate – the interest rate charged by banks to their most creditworthy customers – usually the most prominent and stable business customers • When used in a mortgage sense means most creditworthy individuals • mortgages given to less creditworthy individuals • mortgages issued without adequate documentation – income • mortgages with “unusual” provisions • A sub-prime borrower is one who cannot qualify for prime financing terms because of low credit ratings, insufficient income, purpose of loan, or property type

Sub-Prime Mortgages • A sub-prime lender is one who lends to borrowers who do not qualify for loans from mainstream lenders • Some are independent, but increasingly they are affiliates of mainstream lenders operating under different names – Wells Fargo • Sub-prime lenders seldom if ever identify themselves as such • Their prices are uniformly higher than those quoted by mainstream lenders • Sub-prime lenders base their rates and fees on the same factors as prime lenders • Rates are higher the lower the credit score and the smaller the down-payment • But the entire structure of rates and fees is higher at sub-prime lenders to cover the greater risk and higher costs of sub-prime lending

Sub-Prime Mortgages • Sub-prime lending costs are also higher because more applications are rejected and marketing costs are higher • A higher percentage of sub-prime than of prime loans go into default • The development of the sub-prime market has made mortgages, and therefore home ownership, available to a segment of the population that otherwise would have been shut out of the market • Some borrowers who are eligible for loans from mainstream lenders end up in the sub-prime market • Some borrowers cannot bear the financial burden of a mortgage • Sub-prime lending (HUD) • The risk in sub-prime (CNN Money)

Mortgage Foreclosures • If the borrower is unable to repay the loan, the creditor is entitled to force the sale of the property through appropriate judicial proceeding defined by state law • The proceeds from such a sale, termed foreclosure, go towards satisfying the debt • If the sale proceeds are less than the amount owed, “short sale” the creditor is usually entitled to bring a personal action against the borrower to make up for any deficiency although usually deals are made • The borrower receives the excess if the sale proceeds are greater than the amount owed • How to avoid foreclosure (HUD) • Mortgage foreclosure (lawyers.com) • Sub-prime in Hennepin and Dakota counties (CURA Reporter, Spring 2005) • Community Response to the Foreclosure Crisis (Federal Reserve Bank Atlanta) • Residential Foreclosures in Minneapolis (Minneapolis)

Mortgage Default Servicing Industry • DSNews.com • REOMAC.com • Default Services (First American Title Insurance Company) • Mortgage Default Management Solutions (CoreLogic) • ITLS Default Services

Government Involvement • Governments regulate many aspects of mortgage lending • Specifies the procedures for foreclosure –state • Licensing individuals in originating mortgage – state • Imposes legal requirements on participants in the transactions – state • Lends money to certain institutions –state and federal • Guarantees mortgages – state and federal • Indirectly – regulating the participants in the financial transactions or the financial markets, such as the banking industry – state and federal

Federal Government Involvement • Fair lending statutes • Equal Credit Opportunity Act - prohibits discrimination in lending practices • Fair Housing - prohibits discrimination in housing • Truth in Lending - requires credit institutions to inform borrowers of the true cost of borrowing money (Wikipedia) including the interest rate and cost of all finance charges (origination fees, finder's fees, service charges, and "points") and three-day right of rescission • Real Estate Settlement Procedures Act- buyers and sellers have full knowledge of all "settlement" costs - settlement, when the necessary deeds and the financial transactions are completed • Community Reinvestment Act • Itemized Deductions (IRS) • Monetary Policy - the value of money and the cost of borrowing money Federal Reserve Board

Public Housing • Public Housing - HUD (U.S. Department of Housing and Urban Development Administration) • HUD’s Public Housing Program • Minnesota Housing Finance Agency • Minneapolis Public Housing Authority: MPHA • St. Paul Public Housing Agency • How Section 8 Housing Works (HowStuffWorks) • Policy Basics: The Housing Choice Voucher Program (Center on Budget and Policy Priorities) • Section 8 (housing) (Wikipedia)

“Closing” • Most often a buyer/borrower is also seller – pays off mortgage from the proceeds of the sale of real property interests while borrowing money to acquire those interests on another property at a traumatic event called "closing” • Real Estate Settlement Procedures Act • Housing (Minnesota Attorney General) • The bulk of the proceeds from the sale of a house goes to satisfy an existing mortgage • The bulk of the proceeds involved in the purchase of a house comes from a new mortgage • The mortgage companies are swapping money!!

Vertical Integration in Real Estate Industry • Salesperson – Mortgage institution – Title Company “bundled” together • Edina Realty • Wells Fargo

Private Mortgage Insurance • Usually mortgage originators requires some sort of insurance from lenders • Mortgage insurance – PMI – is an insurance policy designed to protect the mortgagee (lender) from any default by the mortgagor (borrower) • It is used commonly in loans with a loan-to-value ratio over 80%, in cases where the borrower puts down less than 20% of the total value of the residence • Purchase price of house $300,000 • Couple put $30,000 down (10% equity) borrow $270,000 - have a 90% loan-to-value • Would pay mortgage insurance • Cancelled when the couple’s equity equals 20% of the value or $60,000 • Equity = principal (does not concern interest)

Secondary Mortgage Market, Mortgage-backed Securities, and Investments in Real Estate

Secondary Mortgage Market (Wikipedia) Once a mortgage is originated, lenders – banks, savings and loans, mortgage brokers • the mortgage in their own portfolios as assets • sell the mortgages to another entity Mortgages – and other debt instruments – have value and can be conveyed and assigned to other holders • This allows the banks to quickly recoup their mortgage money and originate other mortgages September 2001, the total real-estate equity market in the United States was $372.7 billion Pension Real Estate Association – funds set aside for retirement – held $144 billion Insurance companies investing in real estate

A Primer on the Secondary Mortgage Market (City Research) • Collateralized mortgage obligation first created in 1983 • A mortgage has a value based on a stream of money over a period of time – a stream that can be monetized (given a current value) • A corporation buys a “pool” of mortgages comprising loans with different monetary values • Pools are then securitized in various ways by government agencies, government sponsored enterprises, and private entities • Many Mortgage-backed Securities – “paper” guaranteed by the stream of income from the mortgages have grown rapidly in the last 10 years as a result of the wider dissemination of technology in the mortgage lending world are sold as bonds, but there are a variety of securities deriving their ultimate value from underlying mortgage pools

An investors buy a portion of that pool – called tranches – that may have risks associated with it – the risk of default on any of the mortgages • For borrowers this securitization process keeps mortgage rates almost artificially low, since the pools of funds used to create new loans can be refreshed quickly allowing rapid flow of capital from investors to borrowers • Understanding Mortgage Securitization • Investors in CMOs include banks, hedge funds, insurance companies, pension funds, mutual funds, government agencies, and most recently banks

Collateralized Mortgage Obligation (Wikipedia) • A mortgage loan is transformed into a bond suitable for purchase by an investor • a $300,000 30 year mortgage with an interest rate of 6.5% could be split into 300 1000 dollar bonds • Each bond has a 30 year amortization schedule and an interest rate of 6.00% for example • The remaining .50% going to the servicing company to send out the monthly bills and perform servicing work • A Collateralized Mortgage Obligation is essentially a way to create many different kinds of bonds from the same mortgage loan so as to please many different kinds of investors – tranches

Most MBS's are issued by the Federal National Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac) government-sponsored enterprises • Both provide certain guarantees because they have special authority to borrow from the U.S. Treasury

Government-sponsored Enterprises • Group of financial services corporations created by the federal government • GSEs enhance the availability and reduce the cost of credit to the targeted borrowing sectors - agriculture, home finance, and education • First GSE in 1916 with the creation of the Farm Credit System • GSEs in the home finance segment of the economy with the creation of the Federal Home Loan Banks in 1932 • GSEs in education when it chartered Sallie Mae in 1972 • Congress allowed Sallie Mae to relinquish its government sponsorship and become a fully private institution via legislation in 1995 • The residential mortgage borrowing segment is by far the largest of the borrowing segments in which the GSEs operate • GSEs hold or pool approximately $5 trillion worth of mortgages

Secondary mortgage market • In the U.S. the federal government has created several government sponsored entities, to foster mortgage lending and housing construction and thus encourage home ownership • the Federal National Mortgage Association (Fannie Mae) • the Federal Home Loan Mortgage Corporation (Freddie Mac) • These programs work by buying a large number of mortgages from banks and issuing (at a slightly lower interest rate) "mortgage-backed bonds" to investors, Mortgage Backed Securities – IOUs secured by a pool of mortgages • Wide range of investors in such securities – money managers, insurance companies, thrift institutions, commercial banks, trust departments, pension funds, securities dealers and private investors

Federal National Mortgage Association (Fannie Mae) A congressionally chartered corporation Does not make home loans directly to consumers Buys mortgages, pools them and sells them as mortgage-backed securities to investors on the open market Funds mortgage investments primarily by issuing debt securities in the domestic and international capital markets – sell mortgage backed securities Monthly principal and interest payments are guaranteed by FNMA (not by the federal government) (Fannie Mae receives no government funding or backing and is one of the nation's largest taxpayers) – written 2008 It was one of the most consistently profitable corporations in the United States • Fannie Mae, Freddie Mac, and the Federal Role in the Secondary Market (CBO, 2010) • Fannie Mae (New York Times Aug 18, 2010)

Federal Home Loan Mortgage Corporation (Freddie Mac) • Created in 1970 to expand the secondary market for mortgages • Buys mortgages on the secondary market, pools them, and sells them as mortgage-backed securities to investors on the open market • This secondary mortgage market increases the supply of money available for mortgage lending and increases the money available for new home purchases

Federal Housing Finance Agency • Created July 30, 2008, when the President signed into law the Housing and Economic Recovery Act of 2008 • FHFA given authority to oversee several components of the secondary mortgage markets – Fannie Mae, Freddie Mac, and the Federal Home Loan Banks – to promote their safety and soundness, support housing finance and affordable housing, and support a stable and liquid mortgage market • Supervisory oversight of the 14 housing-related GSEs • As of September 2010, the combined debt and obligations of these GSEs totaled $6.7 trillion, which is only $2.7 trillion less than the total publicly held debt of the USA • Freddie Mac and Fannie Mae purchased or guaranteed 65% of new mortgage originations • Housing-Related Government-Sponsored Enterprises - video

Real Property Finances