One of the ways that the $700 Billion Wall Street bailout is being shoved down the public’s throat this week is with the threat that if the government doesn’t spend $700 Billion on illiquid mortgage assets, the hedge funds and banks and whoever that own all this bad mortgage paper will stop making home loans, and everything will get worse.  Another premise that people are defending is that Paulson’s dumb idea is the best idea that we could come up with.

I really doubt that this is the best idea we could come up with.  I know because I have an idea that’s hugely dumb, and yet it’s better than Paulson’s dumb idea.  I’m sure if you took about twenty bank presidents and stuck them in a room with coffee and Danish for about four hours you could even get a better plan than mine, but meantime, let’s look at my plan.

First, let’s set out our assumptions and goals:

• The government’s going to give us $700 Billion to play with.  They’ll sell treasuries or raise taxes or whatever they need to do.
• We’ll need 10% of the total sum to administer the program.
• Our goals are:
  • Support home lending as much as possible — i.e., prevent a “freeze up” of credit.
  • Minimize risk to the taxpayer.
  • Reward people and institutions who made good choices, and not reward people who didn’t.

Johnnie’s First National Bank

Here we go, ready?

Take $700 Billion Dollars, and deposit it in a Federally run bank.  You don’t have to call it Johnnie’s First National Bank, but that’s what I’ll call it for the sake of simplicity (and narcissism).

In fact, we already have a Federal Reserve, and they have a whole bunch of districts and banks all ready to go.  This is going to be easy!

We’re going to make some home loans.  To make sure we have enough money to pay our $700 billion depositor (the American people) back, we’re going to have a reasonable reserve requirement of five to one — five dollars loaned for every one dollar of deposits.  Since we wanted to have 10% to administer the program, we can loan up to $630 Billion times five, or $3.15 Trillion in home loans.  (To leverage our $630 Billion, we will sell government guaranteed Certificates of Deposit at 3%).

Most of these loans are not going to default, even though we’re going to have high loan to value.  (We need the high loan to value because nobody has any money because the government shipped all our jobs overseas — I’ll have to solve that problem later).  Meantime, borrowers who choose to participate in the program agree that if they default, they have to pay back 20% of the loan amount as a tax lien.  We have the IRS to enforce that.  Also the government will foreclose like any bank would to recover some of its investment.

To further reduce the risk on these loans, we’re going to limit participation in the program to people who have a credit score of 700 or above.  That means about 58% of Americans will be eligible to participate, and it will be the 58% who have the best credit.  I don’t know the exact historical default rate for this group, but I estimate it should be about 3% or so over the life of the loan.  We’re loaning at, oh, I don’t know, 6% per year, and let’s say conservatively we have a .5% yearly default rate, half of which we can recover through tax liens and home sales.

How Many Loans Did We Make?

The average home in America currently sells for about $245,000.  Assuming we made all our loans in one year, we helped almost 13 million people buy homes.  (More precisely, the number comes out to 12,857,143 home loans).  So roughly speaking, we’re able to finance about 20% of all home sales in the United States in a year this way.  Moreover — hooray for us — we picked the top 58% of all borrowers!  (Compare the Paulson plan, which by definition targets the crappy mortgage backed securities that banks don’t want).

How Did We As Taxpayers Do In Our New Socialized Lending Business?

The math gets a bit tricky, and I’m not a banker, but let’s see if we can get a rough idea:

To turn our $700 billion in treasuries into $3.15 trillion in loans, we sold CDs at 3%.  On the lending side, we made 6%, so that works out to 3% net.  However, .5% of the loans defaulted, and we only got half that money back, so our real earnings were 3% minus .25%, or 2.75%.  At 2.75%, our $3.15 trillion made us about $86.6 Billion per year, meaning we can pay the taxpayers back their initial outlay of $700 billion in just a little bit over eight years.

After that it’s all profit.  See, banking’s not a bad business if you do it right.

Did We Meet Our Goals?

We made about 13 million loans.  Not bad.  That ought to keep things going and make up for the banks that folded.  We rewarded people who made the good choices (those who that kept their credit good enough to participate).   If you don’t have a good credit rating, you’ll need to clean that up, but once you do you can participate in the program.  If you’re a bank and you fold, oh well, it sucks to be you, but other banks who were smart enough to make reasonable choices and are now competing with us are doing OK.  The newly formed Johnnie’s First National Bank is turning a handy profit.  I think once the American people learn they’re making $86.6 Billion per year on their investment, chances are pretty good they’ll vote to extend the program.

Just trying to get a head count here before I go ahead and set a date, so do let me know at purvabrown@msn.com right away.

If you’re buying your first property with an eye toward investing in the future or are actively investing into rentals, this seminar can save you thousands of dollars in tax payments when you sell. Yes, yes, it’s perfectly legal. Section 1031 in the Internal Revenue Code allows you to defer all of your capital gain taxes to the IRS (15%) and the Franchise Tax Board of California (9.3%) if you buy another property of equal or greater value.

But you must know what you’re doing. And you must use a qualified intermediary.

So attend the seminar and empower yourself.

I’m still trying to find the answer to this one. In the last post of Sacramento real estate statistics it was pretty clear that Sacramento had about a ten month inventory of unsold homes. Of those, about a third were bank owned houses or short sales.

Consumers usually believe these are better deals than the regular homes in any particular neighborhood. (Why I’m still trying to understand!)And so, there are a lot more buyers for short sales priced the same as a “normal” or individually owned house.

But that being said, not all short sales are going through. Just last week, I canceled my own listing in Colonial Village although it was priced well because the lender would not respond to the offer which was “too low” according to their appraisal. Problem with the appraisal: too high.

So between the offers being too low and the lender’s appraisals being too high, a lot of homes that are technically short sales are not going through. Which means they will either be auctioned or be back on the market as bank owned properties. Unfortunately because they will be left vacant for long lengths of time, they may have issues with deferred maintenance and / or vandalism.

However, it is important to note: if you made an offer on a house and it didn’t go through during the short sale phase, you might be able to revisit it and make the same offer after it is a bank owned property (if it didn’t sell in auction). The earlier rejection may have been because the seller didn’t qualify for a short sale and have nothing to do with your offer.

Something to think about.

After writing about short sales making up a major chunk of the Sacramento real estate market and what they are, the next question that follows of course is if short sales are a good deal for the buyer.

The answer is, it depends.

It depends on a lot of things, the most important being of course – will it even go through? I had the unfortunate experience yesterday of having to withdraw one of my listings because the home had two mortgages on it and the first lender could go into auction and sell the home to recover all of their principal. The second note however might not get anything. In other words, the first lender had no motivation to sell short and the second lender was getting nothing anyway.

The other thing the answer to the above question depends on is of course, what are the comps? How much are the comparable properties in the neighborhood selling for? The seller of the short sale may have paid exorbitantly more and the place might not even be worth a look unless it really is a good price for the buyers.

Thirdly, and probably the most importantly, what condition is the home in? Chances are, if the sellers haven’t been able to pay the mortgage, they haven’t been able to make any repairs to the home. How many of these repairs are serious?

If it were me, I would look elsewhere. There are many properties on the market that are not short sales that are still good deals. To look for short sales in particular seems to me a huge undertaking of patience for not a very high return. But if you are determined, they sure are out there!

Recently I complained that I had bought a book called “How to Finance Any Real Estate Anywhere” and found the concepts just too hard to understand. (Really, it’s like math – if you can’t add, you can’t multiply!) I mean, I knew that the author knew what he was doing. He just couldn’t explain it well enough on the page.

So anyway. I picked up Frank Gallinelli’s “What Every Real Estate Investor Needs to Know About Cashflow” and found it absolutely fascinating. If you like numbers (or if you like the RIGHT numbers) and analyzing the heck out of every deal, this is the book for you.

The writer also has a website where you can buy software that can track your investments and a few other free calculators. Worth a visit.

Okay, fellow Sacramento Realtors® – what is with pricing a home at 199,999? I understand you want to stay under the $200,000 mark, but seriously! At least refrain yourself and set the listing price at 199,900. The buyer gets the idea.

Even Metrolist has started to add a home at $200,000 on both sides of the $200,000 price.

A smart fellow Realtor® looks for a certain amount above and below what his buyer wants anyway – the amount varies with the market. But if my client says she’ll buy a home up to $300,000 I will usually search between the parameters of $240,000 to $320,000. Who knows? The sellers might be motivated!

So instead of letting this drive me nuts, I did some research. Turns out there is a reason behind the 99 cent pricing (Thank God the MLS doesn’t have cents!) and the roots are economic. Go here for the entire story.

But feel free to call and scold me if I ever add too many 9s. Unless it’s a million dollar home. I’d make an exception there -wouldn’t you? But then, I’m the last Realtor® in Sacramento not impressed by 9s.

While bemoaning the idea that none of my buyers want to buy right now and we’re hearing the “we’re holding off buying for now…” (By the way, never – NOT ONCE did I hear that when prices were headed up two years ago. Heard it from sellers that wanted more for their home – their houses are still on the market. Do we see a similarity here? Hmm… buyers?)

… That sentence got too long, so let me begin again. While talking about our potential buyers, Huck – my preferred mortgage consultant – and I got into an email commentary of the Sacramento real estate market and how it will end eventually. Here’s a direct quote:

“Here’s what will happen: Without [the buyers on the fence] constantly in (watching) the market, inventory in a neighborhood of interest will drop, then some house will sell
for a comparatively high price, it will then become “the comparable” for
everything selling subsequent, and we’ll be off on the upswing again. I’ve
seen it happen over and over…

“There’s one almost identical to mine that did just that and it closed about
2 wk ago, driving mine from about $850,000 to $900,000 in one shot. Now
there’s another one like mine pending for $895,000.

“Truly savvy investors are willing to buy BEFORE that happens, and are
willing to see lower prices for a short time before the rise…”

Something to think about!