By Abigail Field, a lawyer and writer. Cross posted from Reality Check
Monday I did an analysis of a study HousingWire reported as showing that profligate borrowers were the reason many 2009 mortgage modifications failed. I analyzed the reported data to show the 2009 mods left borrowers insolvent, and said it’s not surprising that mods that leave borrowers insolvent fail. In the ‘article’, Tom Showalter rejected the idea that mod terms mattered. Instead he claimed the borrowers’ “lifestyles” explained who defaulted and who didn’t.
But here’s the thing. As I explained Monday, the key “lifestyle” choice was which debt to default on: when insolvent, did the borrower pay Peter (the mortgage servicer) or pay Paul (store/credit card debt)? Indeed, the study was a marketing tool trying to sell the ability of a matrix invented by Veritas to identify which potential mod candidates would pay Peter, and which Paul, so the banks could modify loans only for the people who picked Peter. That focus makes the invocation of the irresponsible borrower myth in the article particularly egregious–both borrowers are trying to be responsible in the face of insolvency.
The Morality Tale
Showalter pushes the ‘it’s not the mod terms, it’s the bad borrower’ idea with far more than the “Living Large” headline. He personifies the data by inventing two couples, pitched as archetypes of good and evil, probably hoping to copy the policy-killing success of Harry and Louise.
Showalter’s heroes are subtype G, the 3% of the sample that redefaulted on their mods “only” 26% of the time. He calls them Lois and Eddie, a small town Midwestern couple who’ve been married 20 years, have kids in the local school, work at the mill, and are deeply “entrenched” in their community. They’re not underwater on average, holding 9% equity in their houses. And they’ll do anything to hold onto their houses, because
For Lois and Eddie, their lifestyle–and their values–demand that they save their home. They derive their identity and their purpose from their community. Losing their home would mean losing membership in their community, which is a big part of what makes Lois and Eddie the people they are. A foreclosure would cause Lois and Eddie a great loss-of-face among friends, co-workers and family. Their employers might take note as well.
No wonder they choose to pay Peter over Paul, and default on their credit cards or other debts instead! (Incidentally, surely the mods are objectively inadequate when this archetype of goodness still redefaults a quarter of the time even while they let their revolving debt go delinquent.)
Later in the piece we also learn that Lois and Eddie are:
low income borrowers who are responsible consumers of debt; they very likely own a modest, below median-priced home, view their mortgage as their primary financial obligation and pay limited interest in other forms of debt, such as credit card and retail card. Property values in their neighborhood have been more stable and not subject to wild speculation and tremendous price increases or decreases.”
So in analysis of mortgage related data we know that someone’s had the same employer for 15 years, has been married for 20, has kids in the school and 9% equity, but we don’t know if their house is below median price? They are responsible consumers of debt because they let their credit and retail cards go delinquent to pay their mortgage? They are responsible borrowers because the bubble didn’t hit their neighborhood?
Without the underlying data it’s hard to be precise about how much Showalter is inventing and what he can footnote, but it’s important to notice that his profile contains factors that aren’t driven by Lois and Eddie, such as the stability of the house prices, and that others, like the responsible nature of defaulting on revolving debt, are a matter of perspective.
Contrast wholesome Lois and Eddie with the can’t-be-helped Vicky and Dave. Vicky and Dave’s first offense is that they are young strivers:
Vicky and Dave are a 20-something, newly married couple, who bought a home in a rapidly developing metro-suburban community where they live largely anonymously, barely knowing the names of their neighbors. They have no children, few friends locally, and no family nearby. They have been with their respective employers less than five years each and live many miles from work, with no coworkers in the neighborhood.
Ok. So they’re newly married, no kids, have relatively new employers. So what? They’re young. More; conventionally we want people to get married before they have kids. If they’re college graduates, maybe it’s their first job after graduating. (And maybe they have student loans too.) If they skipped college, child-labor laws would’ve stopped them from having 15 year work histories with the same employers anyway. Living far from their childhood home? Well, they probably went where the jobs are, a brave decision that economists generally want more Americans to make.
Now, why would they live so far from work? Well, as a young couple, they’re surely at the bottom of the house-buying food chain, and homes with convenient commutes cost more. No friends and coworkers in the area? What’s the data is behind those statements? Still, perhaps Vicky and Dave spend all their time working and commuting. So many of us do, after all. So far nothing much separates Vicky and Dave from the strivers we used to idealize except ominous spin.
But Showalter includes another couple sentences about Vicki and Dave, damning sentences at first glance:
They are more aggressive borrowers with more expensive automobiles bought with borrowed money. They support significantly higher revolving balances and have a penchant to add to their credit portfolio, especially their revolving debt.”
The context to remember is this: regardless of what Vicky and Dave’s accounts are like, Lois and Eddie are insolvent after a mod too. What makes Lois and Eddie special to the bank frame of mind is that they pay the mortgage first and let the other bills slide.
Beyond that, when you commute a long way, it’s important to have a reliable, reasonably comfortable car. What does “more expensive” mean, anyway? A 2008 Ford Taurus or a Lexus? Showalter doesn’t say. Buying a car on borrowed money? Well, that’s how most people do it, and when they do, there’s a lender supposedly assessing their ability to repay the loan.
As to “a penchant to add to their credit portfolio,” I wonder what those credit lines are. How many are store cards like HomeDepot or Lowes, which let you buy 3, 6, 9 or even 12 months same as cash if you’re spending $300 at once? Either is an unsurprising card for young, striving new homeowners. They’re more likely to be DIY types, right? Are the other new lines for stores that sell couches, beds, washing machines or other big-ticket items a young couple in their first house need? Those retailers do time-limited same-as-cash deals too.
In short, I wonder whether the couple is “living large” in the welfare queen way it’s intended, or simply trying to realize the American dream on as affordable terms possible, given the decline in real wages? Showalter doesn’t say.
Later we learn that Vicky and Dave’s cohort:
is composed of borrowers who in the recent past have been very aggressive borrowers across a broad spectrum of debt, well beyond mortgage. [again, what does that mean, specifically?] However they are beginning to fall behind in their debt servicing and are suffering eroding credit and declining cash to service their debt. [Declining cash? Did someone lose a job?]
And then there’s this:
[Vicky and Dave's cohort's] Property values [ ] have incurred more depreciation, with many properties now presenting negative equity. This may account for a portion of this borrower’s recent debt servicing distress, since the borrower is no longer able to harvest home equity to support aggressive consumption habits.
What’s the data point for saying Vicky and Dave were using their equity like a piggy bank? It’s purely a speculative comment–”this MAY account”. I’d like to know what percentage of Vicky and Daves have home equity lines? What percentage of those people were constantly drawing them down before experiencing their current debt servicing problems? How do those numbers compare to the Lois and Eddies? These are not idle questions since negative equity could have a very different impact on Vicky and Dave’s “lifestyle” (i.e. cash allocation decisions).
Perhaps being young and transplants, Vicky and Dave are simply more able to be economically rational, and when forced to choose between the bills, see solving their revolving credit problems as more sensible than paying on a deeply underwater mortgage. That’s particularly true since Vicky and Dave belong to the cohort with the highest negative equity, owing 128% of their home’s value.
But economic rationality in the face of post-mod insolvency is not an acceptable way to understand the situation. Showalter explains:
Here’s the question: Will Lois and Eddie respond similarly to Vicky and Dave, given a bout of mortgage distress? Hardly. That’s the point. And, the other point: The terms of the loan modification are highly unlikely to uproot the lifestyle and financial priorities of Lois and Eddie or of Vicky and Dave. Lifestyle differences trump loan modification terms and will do so all day long. Loan modification terms cannot cause Vicky and Dave to become Lois and Eddie any more than they can cause Lois and Eddie to behave like Vicky and Dave.”
Really? The loan mod terms don’t matter? What if the terms of the loan modification left Vicky and Dave and Lois and Eddie both solvent? I’ll bet both couples pay all their bills at that point. And as I noted Monday, if the bankers (and their allies in D.C., including President Obama) hadn’t denied homeowners the right to restructure their mortgages in bankruptcy, the borrowers would in fact be solvent post-mod. That’s the whole point of the bankruptcy process.