How to Fix Housing, Employment and The Economy (Part 1)

As an active real estate investor who reads everything he can about the economy, finance and real estate it has become painfully clear that negativity sells.  I say this because all I keep hearing or reading about is negative information that does nothing more than cause a negative feedback loop.  I can’t recall the last time someone stepped up and proposed solutions that can fix Housing, Employment and the Economy.  The couple I have read essentially were hand outs to some constituent and not a balanced solution where all parties benefit.

I am sure someone out there smarter than I is talking about ways to fix the issues but to date I haven’t found them or read their proposed solutions.  As you will see in this four part series I don’t believe in giving away free money (8K tax credit), I don’t believe in loose lending standards, I don’t believe in small down payments and I don’t believe you should build when you can buy used for less than 50% of replacement cost.

The four part series will dive into the 4 critical teams/constituents that I believe need to work together in a single vision to address the challenges we face.  I believe if the four teams work together that we could be out of this mess in less than 3 years.
 
For the record if they don’t work together we will have 10-15 years of pain.  As an investor who likes cheap properties I hope they don’t figure it out as I can buy a lot more stuff in 10 years than I can buy in 3 years.  But as an American first and foremost I want to get this problem behind us so we can focus on being the best nation on the planet again.  I am an American first and an Investor second. Go America!!!

I strongly believe that this four part series will outline strategies that will put a floor under housing quickly, it will incentives investors and builders to buy distressed assets thus creating lots of jobs and finally with the rise in jobs and the rise in housing value the economy and the country will be back on solid footing.

The Four teams are: The Government, The Banks, The Builders and The Investors.  Each team will be discussed individually as we complete the four part series.

We will start with The Government:

It pains me to admit this as I am a capitalist which means I like it when the government is not involved and at best just plays traffic cop to insure everyone is playing by the rules and no one is gaming the system.

However, I believe the problem we face is so large that the government has to be involved and dare I say it may have to lead the charge as they are the only entity with the size to enact and enforce what is required.  Let me be very clear, the government will be part of the solution but if they do the wrong things they will get the blame if the pain is felt beyond 3 years.  I don’t envy their position but again we can fix this together.

First let’s start with a couple of things they should not do as I think the danger of politics points to short term and populist solutions that are totally wrong in the long term.  If they enact the wrong policies they will extend problems, timelines and severity.

The government should not give away free money.  No more $8,000 Credits, no more cash for clunkers/fixer houses, etc.  Just stop the madness on this front as these programs don’t help at the margin and invite fraud and are costly to manage and enforce.

Also the government has to stop all these programs that enable banks to play extend and pretend.  If the homeowner decides he can’t pay or better yet won’t pay they should be forced out quickly.  The homeowner should not be a loud to game the system and apply for various ill-defined programs in hopes of some magic ending.  Banks should be solely motivated by their bottom line and not some government incentive to review loan mod requests.  I don’t want to read about people not paying their mortgage for 12+ months.  This practice sends the wrong message and forces people to make decisions that invite more distressed inventories and foreclosures down the line.

Also don’t distinguish between owner occupants and investors with any program to purchase properties.  I understand the political logic behind giving the love to owner occupants but let me ask you this question. How many properties can an owner occupant buy in say a 2 year period?  One!!! While an Investor could buy 5-10 or even 25 within 2 years.  We need to remember a sale is a sale no matter who the buyer is and we need to churn through the backlog of inventory.  You can’t turn around prices with just owner occupants there just aren’t enough of them.

I also understand that it is politically correct to blame the investors or speculators for this nasty mess we are in.  But instead of pointing fingers and looking backwards I think we need to look forward and figure out the best and fastest way to consume this inventory and again it is not with programs only for owner occupants.

Investors and the Government need to work hand in hand and we can’t do that by pointing fingers and talking about the past. So what can the government do to encourage investors to step up in a bigger way?

The very first thing the government HAS to do is stop punishing experienced real estate investors. I find it almost comical that someone would think a rookie investor would be a better risk that someone with 20 properties under their belt.  

Under this logic the government would rather go to a heart doctor that has never done a procedure (but read lots of books) instead of someone with 50 or 100 procedures under their belt.  If you had to go to a heart surgeon would you think the greatest risk is with someone who has only read books or someone that has done 100 procedures???  

So what do I mean by punishing experienced investors?
I am referring to the ridiculous rule of limiting investor loans to 10.  I guess if I look at this really hard I can sort of see the political logic but we have to remember the market we are in now.  

The market we are in now is producing great returns and actual cash flow so I suggest investor loans are less risky than owner occupant loans, especially investors with lots of property as they have a bigger base to spread the cost of remodels against.

If the government did nothing else that remove this limit we would shave years off this painful recovery.  Again remove this limit ASAP and the market will change quickly!!!

Another thing the government should consider instituting is a 5 year rule that reduces the taxes burden on house flipping.  We want to encourage people to buy distressed asset, add value and ideally make a profit.  Instead of treating this profit as ordinary income lets agree for the next 5 years any real estate flipping profits is considered long term capital gains.  

We want to incentives the natural animal spirits of capitalism and the best way to do that is by lowering the tax burden on the item or section of the economy you want to improve.

If we incentives people to profit from fixing distressed assets we will put a floor under real estate and help turn this cycle around.  I believe this tax rule change would incentives both individual investors as well as home builders to take on a larger role of purchasing and fixing distressed inventory.  

This activity would consume inventory and it would raise prices as new repaired units sell for a lot more than distressed inventory.  This practice would also help the current homeowner as prices would stabilize and likely rise in many markets.  Everyone would feel richer if the government pushed this 5 year tax program. In addition to more tax revenue we would see a lot more people put back to work!!!  Appraisers, Inspectors, Painters, Carpet, etc would all be in high demand.

I understand why the government creates programs with low down payments.  However, I think if we don’t fix the housing problem we are discussing now that at least 20-25% of these 3 ½% down loans will go into default.  So instead of incenting buyers with loan down payment let’s go the other way!!!

Let’s create incentives for larger down payments. For example save ½ a percent with 20% Down Payment.  People with significant skin in the game are less likely to walk and thus deserve a reduced interest rate.  

I would go as far as to recommend that the person with a 3% or 5% down payment on the same house with the same credit should pay 1.5% higher interest rate over someone who puts down 20%.  It is simple if we want to reduce future risks we need to be smart and encourage people to be fiscally responsible and have strong balance sheets.  Note I am not saying we should kill the 3% down program but what I am saying is it should be a lot more expensive than it is and we should take that extra cost and shave it off the interest rate of 20%+ down payment programs.  If we do this we reduce future risks and produce stronger balance sheets across America.

In conclusion I believe the government needs to be a partner and a leader in this battle to turn housing, jobs and the economy around.  They need to be smart and ignore some of the cat calls that investors are evil and bad and realize investors are the only ones that can chew through the mountain of inventory quickly.
 
I feel very strongly about these suggestions and will boil each of them down to simple terms.

First increase investor loan limit from 10 to 100.  This means more sales or transactions. This means more work for repair teams, painters, appraiser, inspectors, agents, etc. This means less unemployment, more tax revenue for local governments and a stronger economy.  It is just that simple!!!

Second if we tweak the tax code to encourage flipping for a short period of time we will create more competition which will lead to higher prices and more tax revenue.  If we do this correctly it will bring more investors and possibly home builders into the mix.

Third we need to encourage strong balance sheets in America and reward folks for putting down 20%+ of capital.  Owners equity is a very good thing and means the neighborhood will be a lot stronger and less likely to become a ghost town because everyone is upside down.

In subsequent sections we will discuss how Banks, Builders and Investors can complement the actions of the Government to turn Housing, Employment and the Economy around!!!

Good Investing and let me know what you think.