Bank Repossessions Down But Pre-Foreclosure and Short Sales Increasing
A strong rip current of distress continues to threaten the U.S. housing market despite the absence of a giant wave of bank foreclosures in 2012.
Thereâ€™s no doubt that the great foreclosure wave of 2012 just didnâ€™t happen. No mighty financial dams fell and no monetary levees were washed aside.
According to Bloomberg News â€œwhen banks pulled back on foreclosures two years ago following a government investigation into allegations of faulty practices, market researchers, academics and Wall Street analysts said that a surge of delinquent homes would deluge the U.S. market once lenders resolved the claims and worked through backlog, driving down prices for years to come. RealtyTrac a seller of property data, warned a year ago of a â€œnew set of incoming foreclosure waves.â€
â€œDespite a seasonal slowdown similar to what weâ€™ve seen in each of the past four years, Novemberâ€™s numbers suggest a new set of incoming foreclosure waves, many of which may roll into the market as REOs or short sales sometime early next year.â€
Others provided similar predictions. Federal Reserve Chairman Ben Bernanke told Congress in January we should expect 1 million foreclosures in 2012 and another 1 million in 2013. According to the Bloomberg article cited above, Susan Wachter of the University of Pennsylvaniaâ€™s Wharton School expected in February that the logjam of foreclosures may be â€œunleashedâ€ this year.
Wachter is quoted in the Bloomberg article as admitting that she was wrong. And certainly the 1 million foreclosed homes (REO) that Bernanke predicted â€” and which RealtyTrac also expected at the onset of the year â€” have not materialized. Through October there have been a total of 559,063 REOs nationwide, on pace for about 650,000 for the year.
Certainly thatâ€™s still a huge number of bank repossessions by historical standards. In 2005 and 2006 there were less than 270,000 REOs per year. But itâ€™s 19 percent below the 800,000 REOs in 2011 and 35 percent below the peak of more than 1 million REOs in 2010.
â€œOr Short Salesâ€
The two-word phrase â€œor short salesâ€ in the RealtyTrac quote above turned out to be the most prescient part of the prediction.
According to the National Association of Realtors, â€œdistressed homes â€” foreclosures and short sales sold at deep discounts â€” accounted for 24 percent of October sales (12 percent were foreclosures and 12 percent were short sales), unchanged from September; they were 28 percent in October 2011.â€ Foreclosures sold for an average discount of 20 percent below market value in October, while short sales were discounted 14 percent.â€ (Parenthesis theirs)
RealtyTrac distressed sales data from the third quarter shows a similar trend, with pre-foreclosure sales increasing 22 percent from the previous quarter and a year ago even while sales of bank-owned properties decreased 20 percent from a year ago. The pre-foreclosure annual increases accelerated during the quarter, only up 2 percent in July but up 12 percent in August and up 56 percent in September. Preliminary numbers from October show those pre-foreclosure sales increasing 74 percent from a year ago for the month.
What RealtyTrac did not anticipate was for so many short sales to be completed outside of the foreclosure process.
Short sales of homes not in foreclosure during the third quarter increased 15 percent from the previous quarter and were up 17 percent from a year ago. RealtyTrac data shows these short sales accounted for an estimated 22 percent of all sales during the quarter, while the pre-foreclosure sales accounted for nearly 10 percent and the REO sales accounted for nearly 10. That brought the total distressed sale share to 41 percent of all residential sales for the quarter.
Better for Banks and Borrowers
All this demonstrates that a large number of properties that would have been foreclosed were instead converted into short sales. The logic for such conversions from the lenderâ€™s perspective is plain: The foreclosure discount is steeper than the loss with short sales, 20 percent versus 14 percent, according to NAR. RealtyTrac data shows the average price of an REO sale was $161,000 for the quarter compared to $186,000 for a short sale. Lenders realize that they often lose less with a short sale than with a bank repossession and subsequent sale.
But what about borrowers? From the homeownerâ€™s view, whether a home is sold through a short sale or a foreclosure the end result is the same: The property is lost. At least by going through a short sale itâ€™s possible to avoid the social and financial stigma of a foreclosure.
No less important, borrowers had a very good reason to pursue short sales in 2012: the Mortgage Forgiveness Debt Relief Act of 2007 says that in general money not paid to settle a mortgage debt on a prime residence cannot be taxed as â€œincomeâ€ â€” a rule set to end Dec. 31, unless extended by Congress, a continuation which was not guaranteed.
Foreclosed borrowers could get the same tax benefit as short sellers under the tax rule â€” but not the certainty that a foreclosure action would close before the end of the year.
Fred Yancy, Broker