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Robin Hood Foreclosure Fund

Posted by Rafe Furst in Asymmetry, Economics, Interventions, Social Entrepreneurship on May 27th, 2009 | View Comments

Have you ever heard of anyone selflessly helping out a stranger by buying their house at a bank foreclosure auction and just giving it back to them? Well, now you have. More likely, you've probably heard of private investors taking advantage of the banks' unwillingness (or inability) to deal with all the bad loans on their books. Like the group of investors in Act 2 of this This American Life episode, you buy a house that's in foreclosure for a significant discount on its true market value and then "you get the homeowner into either a mortgage they can afford, or they’re able to rent it, or you pay them a bit to move somewhere else." Well, what if there was a way to combine these two activities so that you are doing good for someone else while doing well for yourself financially? There are many variants of how this could work, but here's the basic concept:

Identify a number of people who are about to be foreclosed on but who could afford a reduced mortgage (or rent), and who want to stay in their homes.
Buy these homes at a deep discount either from the bank directly or at auction. E.g. Owner owes $300K, monthly payments are $2K, house is now worth $200K, you get it for $150K.
Offer the original home owner one of two options:
- Get a new loan to buy it back from you at $175K
- Rent it from you for $1K until such time as they can afford to buy it back at a guaranteed $25K below the appraised value at that time.

The key thing to keep in mind is that you half doing this to make a profit and half doing it philanthropically to keep the borrower from losing their house. So whatever potential profit the bank is leaving on the table by not being flexible, you keep half and the borrower gets the rest of the value. Note that the "rest of the value" to the borrower is actually higher than what either you or the bank could capture because they probably owe more than the house is currently worth. In the example above, instead of owing $300K, if you flip the house back to the borrower at $175K, they've just made $125K. You've made a very quick $25K just by being in the right place at the right time with cash (and a willingness to hold the property and be a landlord). I can envision a web site where people who are about to lose their homes can register, giving all the details of their property and sale history along with the history of the relationship with their lender, what their current and prospective financial picture looks like, and how much they would be willing/able to spend monthly on a new mortgage or rent. The story is vetted and the applications that are suspect or don't meet the criteria are rejected. The candidates that pass are given a "buyback or rentback" offer conditional on you being able to get the property at the target price or lower.

Please comment below if you've heard of anyone doing this. If you haven't and you are a home owner who would be a candidate for this type of deal, please also speak up. You might just find your Robin Hood, or maybe a group will emerge to create a fund for this. If you are a potential investor in such a fund, let us know.

hat tip: Laura Rose, Marissa Chien

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rafefurst

WSJ article suggests that this will be harder than it should be. OTOH, perhaps there will come a breaking point where the banks are forced to sell at current market prices or go out of business entirely, in which case the opportunity is just beginning.
Jay Greenspan

@pletix, rafe,

There was another good This American Life piece where they showed the difficulty the banks are having revising loan terms because they don't have the experience and infrastructure to make it happen:

http://thislife.org/Radio_Episode.aspx?sched=1296

Act I

-j
rafefurst

@plektix, my guess is that the banks are struggling just to stay out of bankruptcy and this is below the threshold of activity that will help them short term. plus they'd have to admit to massive paper losses which would surely sink their chances of getting any magic fairy dust from the government. more generally, they're in a losing business (c.f. Black Swan) and they've become too ossified with bureaucracy to be agile and flexible enough to eat their own lunch, and it will be gone before they adjust.
plektix

My biggest question is, if there is room to renegotiate these loans on terms that avoid foreclosure, why aren't the banks doing it themselves?

More to the point, what incentive structures within these banks is causing them to ignore such clear win-win possibilities?
Chris Hughes

There are funds that do this now. I know cause I used to work at one.

This is pretty much PennyMac's business model. Buy large blocks of mortgages, renegotiate terms (by lower principle or interest rate), then service the term of the mortgage and actualize the profits.

It's a brilliant solution but slightly different than what you describe above.

I believe that if the homeowner were to see that there was an actual human being on the other end of this "robin hood fund" they likelihood of default would significantly decrease.

This is the problem that PennyMac faces, they've just bought the loans so in the borrowers eyes what makes them any different then the original bank? This coupled with the fact that it was started by former Countywide Bank execs also puts them at a disadvantage.

Nevertheless, the usurious terms that borrowers face from all debt servicers speaks to the need for bank reform. Obama's newly signed legislation makes some steps in the right direction but it has not gone far enough.

I'm actually more interested in the next phase of this economic crisis: the commercial real-estate mortgage bubble.
(those guys are gonna have rate resets soon too)

-Chris