This began as a comment on Loveland’s inspired campaign to keep Detroiters in their homes. It’s a massive failing that the current Wayne County property auction forecloses, auctions, and evicts in cases where people can afford — or even worse are paying for — their housing. If that strikes a cord with you, please read and respond to the proposal, even if only to voice support.
I agree with Loveland on intent, but would propose a slightly different solution. My goal is to dispose of the properties in a sustainable, self-funding manner that maximizes benefit and equity to occupants while minimizing moral hazards. So what’s that look like?
- Assume an organization exists to administer the program. We’ll call it the Residency Fund for now.
- Well in advance of auction, determine occupied properties up for foreclosure. We want to distinguish between owner-occupied & renter-occupied at this point. A well designed mailer addressed to Current Resident at 1234 XYZ St., plus some follow up canvassing, will do.
- Pre-auction, enroll occupants in a re-purchase program. Roughly speaking, we turn the tax balance due to Wayne County at the auction date into a 5 year, $0-down land contract, at a market interest rate (9%?). To maintain residency, there is a paired lease. The terms should match, so it’s also a 5 year lease. The Residency Fund provides no property management or landlord services, just occupancy of the property.
- On auction day, property ownership transfers to the Residency Fund. Wayne County gets a check from the Fund equal to the taxes due. The occupant becomes a tenant of the Residency Fund, and they begin repayment on their land contract simultaneously. The land contract should include escrow for taxes & insurance — tenants make a single payment and it keeps them in their home. They also don’t have bumpy expenses when tax bill comes.
- We gotta fund this thing. It’s pretty easy — bundle up all the small land contracts into a big Secured Bond, and sell that. See the footnotes for details.
- Because it’s a second chance, the land contract should have pretty strict terms around default. Owner-occupied & renter-occupied should have different terms, as the moral hazards are significantly different. We don’t want owners using this program to turn delinquent taxes into low cost loans from the public. See the footnotes for details.
- At successful repayment, properties would be deeded to the tenant-buyer. This should include significant communication around staying current on future taxes: how to pay & what bills to expect, when. The Residency Fund could also provide an ongoing tax escrow service. This should be cheap enough to run and it would self-fund from the interest on a bank balance or from monetizing the benefit of smoothing cash flow timing for the City.
The Residency Fund can be public, private, non-profit or any imaginable combo of the three. The important thing is that is a) self-funds from program revenues and b) has a mandate to run at break even, with accidental profits invested back into the program for the benefit of residents (i.e. lower interest rates, 5th year debt forgiveness, etc). Again, the important things are sustainability, minimizing moral hazard & routing benefits to occupants.
This has all been very win-win-win, and maybe you’re skeptical, so let’s do a quick case study. This is based on scrolling Loveland’s data for several occupied New Center homes.
That’s a lot less than rent and it’s got current taxes and insurance rolled in!
So how big would this program be? Loveland estimates ~4,700 occupied homes foreclosed in 2016. Assume an average $5,000 balance for $23.5M in annual debt principal. That amount that could easily be sold regionally, perhaps even through a crowd-equity type program with MI residence verification. JP Morgan should also have interest as part of their $300M commitment to Detroit. Another option would be to fund through a Wayne County bond, currently at ~4.5% interest.
There’s a lot of space between how things run today and what ‘the market++’ could work out, and that means there’s a lot of value we can accrue to Detroit residents. It just takes the right framework.
Footnotes & details:
Where’s the money come from?: There are 3 major spreads (market failures) we can fix here. Between them, they’ll easily pay to administer the Residence Fund and there’s still plenty of excess value unlocked for Detroit residents.
- Interest Rate Spread (Wayne charges 18% on taxes, borrows at 4.5%, that’s an insane gap on what amounts to low-LTV secured debt)
- Taxes Due/Property Value spread (evident in Wayne County pulling down significant profits from the auction every year)
- Monthly Payment/Rent Value spread (evident in the table above)
Bullet 5, Funding: The Residency Fund is basically holding a bunch of very small secured loans at very low LTV values (worst case is $10k taxes/$15k asset value for 66% LTV, median should be around $7k taxes/$30k asset value for 25% LTV). These can aggregate up to a single large-ish debt issue secured by 1) land contract payments 2) the Residency Fund’s loan-loss reserves 3) the properties themselves 4) the full faith and credit of Wayne County. At that point it’s simply Normal Debt like any other muni bond, not an innovative & complex real estate funding scheme.
The 4.5% cost of funds and 9% land contract rate would provide ~$600k/yr to fund the Residency Fund. Those assumptions should be conservative as the Taxes Due/Property Value Spread provides “free” funds and the Monthly Payment/Rent Value spread implies land contract rates above 9% could be sustainable and fair. Then again, $600k/yr should fund the thing, it’s really simple once it’s up and running.
Bullet 6, Default:
6.1) Properties that default on the land contract enter a pool to be sold. Again, this is a second chance. Properties that default don’t get 3rd chances. This is especially true for owner-occupied properties.
6.2) Properties could be sold through the annual auction, land bank, or some other mechanism. There’s a discussion to be had about eviction timing: at default, at sale, or buyer-beware. Call this bullet “reasonable people could disagree”
6.3) Defaulted property sale proceeds fund a loan-loss reserve to keep the bond holders whole. We know there will be defaults, but we don’t want our investors to see them — they get the same payments whether the money comes from the occupant-buyer or auctioning the house. This improves the debt quality, keeping interest rates low for occupant-buyers. Any excess sale proceeds roll over to next year’s budget to ‘buy down’ the interest rate for the new round of occupant-buyers. This makes sure that the Taxes Due/Property Value spread accrues to residents, not investors.
So… who loses?
This is basically just financial engineering. We’re “unlocking” value, not creating it. That is, it’s zero-sum, at least in financial terms. So, there has to be a loser. It’s Wayne County. But all they’re losing is a business they should have never been in: (very regressive) rent seeking via a regulatory monopoly. The Interest Rate Spread and Taxes Due/Property Value Spread are both paid directly to Wayne currently. I don’t think that’s any serious person’s idea of government’s highest purpose, left, right, or center.
The parts of the Monthly Payment/Rent Value spread that don’t disappear into thin air currently are captured by landlords who collect rent but don’t pay their property taxes, and no one will weep for them either.
PS: It’s not actually zero sum. There’s significant non-financial benefits to keeping people in homes (this was kinda the whole point, remember?). It also creates financial value several ways: i.e. evictions are expensive for both owner & tenant, any vacancy period lowers property values, sight-unseen auctions don’t capture best price, etc. etc. But the skeleton of the plan is zero-sum financial engineering. Even if there weren’t all those value-adds, the plan holds up.