NCPA - National Center for Policy Analysis

Rent-to-Own, the Feds and the Housing Sector

January 30, 2012

Government-sponsored enterprises Fannie Mae and Freddie Mac, under the guidance of the Federal Housing Administration (FHA), are looking for options to unload their large portfolios of distressed real estate properties.  Specifically, real-estate-owned (REOs) properties -- properties where mortgage lenders have taken ownership after default -- are a growing class of assets that the FHA is hoping to partner with the private sector in order to unload, says Jay Weiser, an associate professor of law and real estate at Baruch College's Zicklin School of Business.

  • The Federal Reserve estimates in a white paper that there were about 500,000 real-estate-owned properties for sale in the second quarter of 2011.
  • It also suggested that there will be potentially 1 million more foreclosures in 2012 and 2013, which will further expand this class of assets.
  • As these properties lie empty without investors to maintain their upkeep, their value automatically deteriorates over time, meaning that the FHA (a large holder of REOs) is losing value in its assets every day that it cannot sell them.

To this end, the Obama administration is seeking joint ventures with private entities, such that investors can take the properties off their hands in exchange for cash or a share in unrelated private ventures.

  • The aforementioned white paper identifies six metropolitan areas with more than 2,000 Fannie, Freddie and FHA REOs.
  • Among these properties, it estimates that 40 percent could justifiably be converted into rentals.
  • This amounts to 7,200 units scattered across the six metropolitan areas, plus another 14,400 rentable REOs scattered across 140 metropolitan areas, for a total of 21,600 rentable REOs.
  • This accounts for only 4 percent of REOs in 2011 that the FHA will attempt to unload.

Furthermore, not only will this plan have little effect in alleviating the growth in the REO sector, but also FHA regulations on the properties will bludgeon their value.

  • By limiting investor exit rights, the FHA will force potential investors to demand a higher risk premium.
  • The FHA will also encourage rent-to-own opportunities, which eliminate the best investor return possibilities and drive down the expected value of the asset.
  • Finally, the FHA will allow rentals to former owners, increasing the likelihood of another default.

Source: Jay Weiser, "Rent-to-Own, the Feds, and the Housing Sector," The American, January 25, 2012.

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