Saturday, September 09, 2017

How Harvey and Irma might flood Ginnie Mae issuers

I got to spend some time this week at Toni Moss' Americatalyst event with Ted Tozer, President of Ginnie Mae during the Obama years. I always learn stuff when I spend time with Ted, and in this case, what I learned was a little scary--that for FHA to make an insurance payout to a lender, the property that is foreclosed upon must be conveyable.  Which is to say, if an FHA loan is foreclosed upon by a lender, before the lender receives compensation for its losses, it needs to make sure a house can be sold.  A house ruined by a hurricane is not conveyable.

Unlike Fannie Mae and Freddie Mac securities (which are issued by the two GSEs), Ginnie Maes are issued by hundreds of individual firms.  Quicken is an issuer; so is Wells Fargo.  The loans inside of Ginnie Mae are all explicitly guaranteed by the US Government--they are all FHA, VA, or rural housing loans.

Also unlike FF, Ginnie does not guarantee securities; it guarantees the issuers of securities.  If an issuer fails to meet its obligations to make principal and interest payments, Ginnie Mae takes them over, much like FDIC takes over a failed bank.  When a loan within a security goes into default, the issuer is obligated the pull the loan out of the Ginnie Mae pool and pay the investors the principal balance at the point--from the standpoint of the investors, the default becomes a prepayment event.

So now the issuer has basically fronted a loan to the government: the issuer pays the security holder, and then is reimbursed for that payment when FHA/VA/Rural Housing pay a claim.  Issuers should hold sufficient capital (or have sufficient lines of credit) to float the money to the government.  But an event like Harvey could produce a big problem--lots of houses that go into foreclosure might never become conveyable, and so never get a mortgage insurance claim fulfilled.  For issuers with concentrated business in Texas and Florida, this could create enormous stress.

There are measures government could take to prevent this problem, such as providing zero cost loans to homeowners for reconstruction, particularly outside of designated flood areas.  But the leadership necessary to solve this problem is now, well, nonexistent.  There is no FHA Commissioner and no Ginnie Mae President.  A Deputy Secretary (who is a very good candidate) has been nominated but not confirmed.  There is nobody home now, when we most need somebody.

I hope I am worrying over nothing, but I kind of doubt it.

Wednesday, August 30, 2017

Tony Yezer on Tax Avoidance and Incidence

He writes:

"I teach this in urban economics.  However, in this case there is a 4.5% CAP rate (note that is operating revenue net of operating cost including taxes, insurance, etc) and 4% appreciation per year for 8.5% before taxes.  Pretty sweet.  If this asset is so tax-preferred, then how is this possible?  Why don't capital markets arbitrage this away?  Why doesn't the tax expenditure to to the renters.  In urban economics class we learn that the tax expenditure goes to the renters to offset the owner tax expenditure.  So the 8.5% never materializes.  What does happen is that we all (owners and renters) consume more housing space because that is the primary determinant of greenhouse gas emissions by households and we want to maximize those emissions..... Note that the household emissions arise BOTH because the units are larger and contain more stuff AND because commuting distances are longer in less dense cities due to the policy.  I have a JUE paper about all this.    This is not new and it is obvious.  The problem is that no one cares about the incidence of taxes.  I bet that fewer than 2% of the American people know that the corporate income tax falls largely on workers in America.  A society ignorant of the difference between statutory and economic incidence of taxes is likely to make very poor and perverse decisions.  

The most important idea that I include in principles of economics is the difference between statutory and economic incidence.  In the case of GW students, it begins with the idea that taxes on liquor are not paid by the saloon owner or the bartender.  That gets their attention and then we make some progress."

What Tony writes is true, but it also underlines a problem--how do we judge tax fairness based on economic incidence?  That would involve knowing a lot of elasticities that we don't know.  If we think fairness is a critical consideration when making tax policy (and I, for one, do), I don't see how we avoid using statutory incidence, if only as a first approximation to economic incidence.  

Tuesday, August 08, 2017

I think I support a tax cut...

...for below median income households.

Mitt Romney infamously complained during his presidential campaign that 47 percent of Americans paid nothing for their government benefits.  What he really meant is that 47 percent did not pay federal income tax; they still paid lots of property, sales and FICA taxes.

A story by Jordan Weissman in Slate this morning underscored this fact; indeed, the story, in my view, buried its lede by focussing on the fact that the top one percent pay about 1/6 less in taxes as a share of income when compared with the 1950s.  To me, the most interesting thing was demonstrated in this graph by Piketty, Saez and Zucman:

Taxes as a share of income on the bottom 50 percent of the income distribution have risen about 60 percent (from 15 percent of income to 25 percent).  This falls into the category of facts I didn't know that I should have known.

Wednesday, August 02, 2017

How the very rich legally avoid paying taxes (h/t/ Ed McCaffery)

It is not that difficult--if you have access to capital.  Here are the steps:

(1) Buy an apartment complex for $10,000,000 at a 4.5 percent cap rate with a 35 percent downpayment; finance $6,500,000 with an interest only loan at 3.5 percent that comes due in five years.

(2) Let's say 35 percent of the value of the property is land and the remainder is improvements. Improvements on apartments are depreciated on a straight line basis over 27.5 years.  So taxable income is

450,000-227,500 (interest) - 236,363 = -13,863 or a taxable loss.  

Meanwhile, cash flow is 222,500 per year.  So one gets cash while taking a tax loss.

(3) It gets better.  Suppose when refinancing happens in five years, the property has gained 20 percent in value.  Now one gets a 65 percent LTV loan on a $12,000,000 property--and gets to pull $1,300,000 out of the property.  Suppose NOI has also gone up 20 percent.  Sow now taxable income is 

540,000-273,000-236,363 = 30,636.

Assume that the owner's all in marginal tax rate is 50 percent.  In exchange for a one time $1,300,000 in cash and cash flow of $267,000, the owner pays a little over $15,000 in taxes and 3.5 percent in interest on the extra money.  No matter how one looks at it, this is a tax rate on cash of less than 10 percent.

It keeps going for 27.5 years, at which point the owner can defer taxes via a like-kind exchange. All of this is perfectly legal.  And it explains why salaried workers pay more in taxes than owners of capital.

Saturday, July 29, 2017

Missing Car Talk (because Tom and Ray spoke not of what they did not know)

Saturday morning errands were more attractive when, while driving, one could listen the Tappet Brothers give sound advice on auto repair and safety.  Something they did not do, however, is give advice on the financial implications of leasing/owning  (even though I suspect that their MIT educations would have allowed them to figure out how to make good financial choices).

This morning, I thought I found a substitute for the Magliozzi boys--a car-advice program on KNX, a local newsradio station.  But within ten minutes, I heard the host give terrible advice.  When his sidekick asked him if buyers should make an upfront payment on a lease in order to buy down their monthly payments, the host said no, that such an upfront payment was a waste of money, because of the absence of equity value at the end of the lease term.  But the buydown can, in fact, be a very sensible thing to do, depending on the nature of the deal.

To give one example, consider this lease calculator for a Honda Accord.  With a $3000 downpayment, the monthly payments for the car are $186 per month for 36 months.  At zero down, the payments are $266 per month.  So by investing $3000 more up front, you are reducing your payments by $80 per month.  Now lets consider the implicit rate at which you are borrowing the $3000, by using the excel function RATE.

RATE(36,266-186,-3000) =  .0022.

So the cost of borrowing here is 22 basis points per month, or, on an annualized, compounded, basis, 3 percent.  This is not a great return on investment, so the lower down payment may make sense.  But to give general advice without doing the math first is to give bad advice.


Thursday, July 27, 2017

Fannie and Freddie don't really do 30-year mortgages

The reason is prepayment.  I just happened to notice recently that even in periods where there isn't an interest rate incentive for people to prepay their mortgages, lots of people do.  As this piece in Mortgage News Daily shows, conditional prepayment rates on GSE secured loans are essentially always above 10 percent, regardless of market interest rates.  When people have mortgages whose rates are lower than market rates, some still prepay, either to move, or to get cash, or to consolidate debt.

At a 10 percent conditional prepayment rate, 65 percent or mortgages are paid off in less than 10 years (and when one adds in amortization, 73 percent of mortgage balances are paid off, assuming a rate of 4 percent).  Of course, 10 percent is the minimum, so actual mortgage payoffs are much higher than 65 percent.

One of the justifications (and one I have used myself) for GSEs is that they allow borrowers access to 30-year, fixed rate mortgages.  Consumers generally pay more for the very long term--a payment that may be justified as an insurance premium.  But if very few people use the insurance, it is not clear whether the cost is worth it to consumers.  At the same time, because of slow amortization, the 30-year mortgage--particularly one that is being refinanced regularly, is not a great savings commitment device.

Perhaps a better product for consumers would be a 7-year adjustable rate mortgage, or even better, a 7-year ARM with a 20 year amortization term.  The 30 year mortgage arose as an affordability product when interest rates neared and exceeded double digits, and was a good product for those times.  But in a world of very low interest rates, it may no longer be the gold standard for consumers.  And so if we are to ever get to housing finance reform, perhaps the next model of housing finance should be very different from today's.      

Tuesday, March 21, 2017


I got to spend a year (July 2015-June 2016) working as a Senior Advisor at the Department of Housing and Urban Development.  I wasn't particularly high up in the pecking order, but I got to work with a number of people from HUD, Treasury and the White House who were.

Here's the thing (sorry for using a Sorkinism): all of these people--every, single, one--liked President Obama; were proud to work for President Obama.

Did they think he was perfect, or always made the correct decision?  Of course not.  But I have to say, in all the meetings in which I got to participate, there was reasoned deliberation, and comportment really mattered.  The atmosphere was professional and respectful.  And I think because of this, no one wanted to embarrass the president--certainly no one wanted to go out of his or her way to damage the president.

Just saying...