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A Joint Publication of the Federal Reserve Banks of Boston and Cleveland and the Federal Reserve Board

September 2010

Research and Commentary from • Nonprofit and municipal practitioners • Federal Reserve, academic, and policy researchers • Private sector partners

Features • REO markets and how they operate • Keeping properties occupied despite delinquencies • Stabilizing neighborhoods after foreclosures

Strategies for Neighborhood StabilizationREO Vacant Properties &

Strategies for Neighborhood StabilizationREO Vacant Properties &

A Joint Publication of the Federal Reserve Banks of Boston and Cleveland and the Federal Reserve Board

The views expressed here are those of the editors and individual authors and are not necessarily those of the

Federal Reserve Banks, the Federal Reserve System, or the authors’ affiliated organizations.

©2010, all rights reserved.

Table of Contents

Introduction4 LetterfromPresidentsRosengrenandPianaltoandGovernorDuke

5 AbouttheMOREInitiative

6 Foreword

Section I: Research and AnalysisThe Scope and Nature of the REO Challenge

13 REOProperties,HousingMarkets,andtheShadowInventory byAlanMallach,BrookingsInstitution

23 ShutteredSubdivisions:REOsandtheChallengesofNeighborhoodStabilization inSuburbanCities byCarolinaK.Reid,FederalReserveBankofSanFrancisco

33 HoldingorFolding?ForeclosedPropertyDurations andSalesduringtheMortgageCrisis byDanImmergluck,GeorgiaInstituteofTechnology

47 REOandBeyond:TheAftermathoftheForeclosureCrisisinCuyahogaCounty,Ohio byClaudiaCoulton,MichaelSchramm,andAprilHirsh,CaseWesternReserveUniversity

55 ExaminingREOSalesandPriceDiscountsinMassachusetts byKai-yanLee,FederalReserveBankofBoston

65 MaximizingtheImpactofFederalNSPInvestmentsthroughtheStrategicUse ofLocalMarketData byIraGoldstein,TheReinvestmentFund

77 ServicingREOProperties:TheServicer’sRoleandIncentives byStergiosTheologides,CoreLogic

Section II: SolutionsStrategies for Dealing with REO and Vacant Properties

89 AcquiringPropertyforNeighborhoodStabilization: LessonsLearnedfromtheFrontLines byCraigNickerson,NationalCommunityStabilizationTrust

95 REODispositionandNeighborhoodStabilization:AServicer’sView byJayN.RyanJr.,FannieMae

101 AcquiringPrivatelyHeldREOPropertieswithPublicFunds: TheCaseoftheNeighborhoodStabilizationProgram byHarrietNewburger,FederalReserveBankofPhiladelphia

107 NonprofitStrategiesforReturningREOPropertiestoEffectiveUse byDanielFleischman

115 PurchasingPropertiesfromREOandResellingtoExistingOccupants: LessonsfromtheFieldonKeepingPeopleinPlace byElyseD.Cherry,BostonCommunityCapital, andPatriciaHanratty,AuraMortgageAdvisors

123 TheCommunityAssetPreservationCorporation:ANewApproach toCommunityRevitalization byHaroldSimon,NationalHousingInstitute

131 EmbracingRentingtoAccelerateNeighborhoodRecovery byDaniloPelletiere,NationalLowIncomeHousingCoalition

141 CleaningupaftertheForeclosureTsunami: PracticestoAddressREOsinNortheastOhio byFrankFord,NeighborhoodProgress,Inc.

145 HowModernLandBankingCanBeUsedtoSolveREOAcquisitionProblems byThomasJ.FitzpatrickIV,FederalReserveBankofCleveland

151 TheCommunityReinvestmentActandNSP:ABanker’sPerspective byMikeGriffin,KeyBank

Project TeamProject Directors and Content Editors PrabalChakrabarti, FederalReserveBankofBoston MatthewLambert,FederalReserveBoard MaryHelenPetrus, FederalReserveBankofCleveland

Managing Editor AnneO’Shaughnessy, FederalReserveBankofCleveland

Content Editor LisaNelson, FederalReserveBankofCleveland

Designer JulieWeinstein, FederalReserveBankofBoston

Acknowledgments Theprojectteamwouldliketoacknowledgethefollowingindividuals,whoseexpertise,

insights,andsupportwerecriticaltothecompletionofthisreport:HeidiFurseand RichardWalkeroftheFederalReserveBankofBoston;RuthClevenger,AmyKoehnen, andMicheleLachmanoftheFederalReserveBankofCleveland;andJosephFirschein andTheresaStarkoftheFederalReserveBoard.Theteamwouldalsoliketothank TammyEdwards,ScottTurner,andAliciaWilliamsoftheFederalReserve’sMortgage OutreachandResearchEffortsCommittee.

Coverimage:iStockphoto

4 REO and Vacant Properties: Strategies for Neighborhood Stabilization

Foreclosuresare thehardrealityof thehousingcrisis. In2009alone, roughly2.5millionhomesreceivedanoticeofforeclosure,accordingtotheMortgageBankersAssociation.Thatrepresentsanearly25percentincreasefromalready-elevated2008levelsandisfarhigherthanpreviousyears.Giventhemagnitudeofthesenumbers,thequestionthenbecomeshowbesttohelpcommunities,particularlylow-andmoderate-incomecommunities,whereforeclosedpropertiesareconcentrated.

Thepurposeofthisvolumeistoshedlightontheproblemofvacantandabandonedpropertiesinthehandsoflenderswhohaveforeclosedbutcontinuetoholdthemasreal-estate-owned(REO)ontheirbooks.Wehaveaskedavarietyofexpertstoaddresssuchquestionsas

• Whatarethekeychallengesfacedbycommunities astheREOinventorygrows? • WhatdothedatatellusaboutREOmarkets? • Whatincentivesinfluencebuyerandsellerdecision-making? • Whatstrategiesguidecommunity,municipal,andnonprofitresponses?

Thiscollectionofworkexaminesfield-testedsolutionsforneighborhoodstabilization,suchascodeenforcement,maintainingoccupancythroughtenants,andlandbanking.Itreportsonongoingpro-gramssuchasthefederalNeighborhoodStabilizationProgramandanational“firstlook”programforcommunity-mindedbuyers.Thevolumealsoexaminesunintendedconsequencesandproposesnewsolutions.

WearepleasedtopresentthisvolumeasajointeffortoftheFederalReserveBanksofBostonandClevelandandtheBoardofGovernorsthatispartofabroaderFederalReserveinitiativetoaddresstheimpactsofforeclosuresonindividualsandneighborhoods.Wehopeyoufindthepublicationusefulandpassonitslessons.

Eric RosengrenPresident&CEOFederalReserveBankofBoston

Elizabeth DukeGovernorFederalReserveBoardofGovernors

Sandra PianaltoPresident&CEOFederalReserveBankofCleveland

Letter from Presidents Rosengren and Pianalto and Governor Duke

5Federal Reserve Banks of Boston and Cleveland and the Federal Reserve Board

Since the start of the financial crisis, the Federal Reserve System has undertaken a series ofunprecedentedactionstohelpstabilizethemortgageandfinancialmarketsandpromoteeconomicrecovery.WhatislesswellknownisthattheFederalReservehasalsobeenworkingtorespondtotheforeclosurecrisison“MainStreet,”leveragingtheSystem’sresearch,communityaffairs,andsuper-vision and regulation functions to support innovative foreclosure prevention and neighborhoodstabilizationstrategiesatthelocallevel.Inthespringof2009,theFederalReserve’sConferenceofPresidentsembarkedonacollaborativeefforttobringtobearthesubstantialexpertiseandknowl-edgeofmortgagemarketsacrosstheFederalReserveSystem.UndertheauspicesofMORE—theMortgageOutreachandResearchEffortsinitiative—the12FederalReserveBanksandtheBoardofGovernorshaveworkedtogetherdeterminedly,leveragingtheSystem’sexpertisetoinformandengagepolicymakers,communityorganizations,financialinstitutions,andthepublic.

This publication, REO and Vacant Properties: Strategies for Neighborhood Stabilization, is oneof numerous MORE-sponsored projects designed to promulgate best practices and innovativeprograms for local communities and individuals who are working to improve the conditions ofneighborhoodsthathavebeenaffectedbyhighratesofforeclosure.InformationonotherMOREprojects,includingforeclosuretoolkitsandothervaluableinformationforborrowersandcommu-nityorganizations,canbefoundatwww.chicagofed.organdtheWebsitesofeachoftheFederalReserveBanks.

TheMOREinitiativedemonstratestheFederalReserve’scommitmenttoendingtheforeclosurecrisis and promoting neighborhood recovery. We will continue to use our resources to providerelevant data, research, and outreach in support of individuals and neighborhoods struggling torecoverfromthehousingcrisisandtheresultingrecession.

Charles EvansPresident&CEOFederalReserveBankofChicago

About the MORE Initiative

Members of the MORE CommitteeDouglas Evanoff Co-Chair/Chicago Alicia Williams Co-Chair/ChicagoPrabal Chakrabarti Boston Matthew Lambert BoardofGovernorsLarry Cordell Philadelphia Andreas Lehnert BoardofGovernorsTammy Edwards KansasCity Nellie Liang BoardofGovernorsJoseph Firschein BoardofGovernors Harriet Newburger PhiladelphiaScott Frame Atlanta John Olsen SanFranciscoFrederick Furlong SanFrancisco Jeff Paul AtlantaKristopher Gerardi Atlanta James Savage ClevelandErica Groshen NewYork Theresa Stark BoardofGovernorsJoy Hoffmann SanFrancisco Daniel Sullivan ChicagoJacqueline King Minneapolis Douglas Tillett ChicagoJohn Krainer SanFrancisco Scott Turner SanFrancisco

Richard Walker Boston


Residents of Rust Belt cities harbor dark memories of past economic downturns. IncitieslikeLawrence,Massachusetts,andCleveland,Ohio,economicshiftsledtosignificantjoblossesanddisinvestment,alongwiththerelatedproblemsthatfrequentlyaccompanysuch changes. In 1992, for example, Lawrence lost 120 buildings to arson. Crime andotherillicitactivityproliferated.Butthankstothehardworkofcommunityactivistsandsuccessfulpublic/privatepartnerships,thelate1990sandearly2000ssawredevelopmentinLawrenceanddozensofcities like it.Thisurbanrenaissancealsotookhold in largercitieslikeCleveland,whichleveragedarobustcommunitydevelopmentcorporationnet-work to rehabilitate existing residences, construct new homes, and revitalize the city’scommercialdistrict.

Therecenthousingcrisis threatens toundotheprogressmade incommunitiesover thepast20years.Theviabilityofinvestmentsmadeinneighborhoodsbybanks,investors,non-profits,foundations,businessowners,andresidentsisinquestionastheforeclosureproblempersists,compoundedmostrecentlybyhighunemploymentlevels.Theissueofvacantandabandonedpropertythreatenstheverysustainabilityofmanycommunities.Buttheeffectsof thehousingcrisisarenot limitedtourbanareas; suburbanandruralareashavebeenhithardaswell.Communitiesacrossthecountryhavelostrevenuebecauseofdwindlingproperty-taxbases;theyfaceseverecutsincriticalservicessuchaspolice,socialservices,libraries,andschoolsdespitesharpincreasesindemand.Asoldercommunitiesfacefamiliarfears,neighborhoodsinnewerorrapidlyexpandingcommunitiesfacedifferentchallenges,suchashowtofundtheprovisionofmunicipalservicestotheremainingresidentsofhalf-emptyneighborhoods.

Withthispublication,weaimtoshedlightonhowcommunitydevelopmentpractitionersandpolicymakerscanhelpstabilizetheneighborhoodsmostatrisk,thatis,thosebesetbyconcentrationsof foreclosures.Theanimating ideahere is thatcommunitydevelopmentpractitionersshouldbeguidedbythebestavailableresearch,byanecdotalreportsofwhateffortsareworking,andbythebestnewideasaboutwhatotherapproachesmightwork.Weculledthecountryforindividualsandinstitutionsthataredeeplyengagedinthisissue,bothacademicallyandatstreetlevel.Ourauthors,figurativelyspeaking,haverolleduptheirsleevesandgottentheirhandsdirtyinthedataorinthefield,whatevertheirinstitutionorperspective.Thispublicationispresentedintwoparts;onefocusesonresearchandanalysisandanotherfocusesonpolicysolutions.

Market DynamicsSeveralarticleslookatselectedcities,counties,ormetropolitanareastoidentifypatternsanddrawbroaderinferencesabouttheREOmarket.Thesearticleshighlightthedistinctionsbetweenso-calledweakandstrongmarkets,andamonginner-city,inner-ring,and“exurb”communities.ClaudiaCoulton,MichaelSchramm,andAprilHirshlookatforeclosuresintheClevelandarea,whichexperiencedtheriseinforeclosuresearlierthanotherpartsofthecountry.Theyfindcompellingevidenceofdisproportionatenumbersofforeclosuresinminoritycommunities,changesinhowREOpropertiesaresoldandtowhom,andthatmanyREOpropertiesarebeinglefttodeteriorate.Kai-yanLeetakesustosomeofthecities and towns of Massachusetts, many of them former mill towns that successfully

Foreword


pursuedrevitalizationplans,onlytobeatriskofhavingtheireffortsreversed.BotharticlesexaminepricesforREOsandfindsteepdropsinvalue.

Foreclosures arenot limited to the older, industrial areas of the country.CarolinaReiddescribestheoutlying“boomburbs”ofCalifornia’scities,whichhavedenseconcentrationsofREOproperty.DanImmergluckfocusesonFultonCounty,Georgia,wherehefindsthatafewsellersaccountformostREOsalestoawidevarietyofbuyers.Immergluckalsofindsincreasingvolumeandsalesoflow-valueREOs(themostdistressedproperties),manyofwhichweresoldtoinvestors.Thissuggeststhatneighborhoodstabilizationpoliciesneedtoincorporatethinkingaboutwhattodowithinvestor-ownedpropertiesaftertheirpurchase,notjustthinkingaimedatlender-owners.AlanMallachillustratessomebroaderfindingswithaclose lookatPhoenix,Arizona.Intriguingly,heunpacksthedynamicbehindtheso-called“shadowinventory”bylookingathowshortsales,loanmodification,andsalestoinvestorsatforeclosureauctionarelikelytoaffecttheinventoryofREOproperties.

The Slow Starts and Hard Slogs of REO RedevelopmentDesigners and implementersofnational efforts to addressbarriers in the acquisitionofREO properties have faced a steep learning curve. Several authors address the federalNeighborhoodStabilizationProgram(NSP)andthedifficultyofobligatingmoneywithinthatprogram’s18-monthtimelimit.Drawingoncasestudiesofmorethan90NSPsitesaroundthecountry,HarrietNewburgerhighlightssomeoftheprogramrequirementsthatslowedNSP’sstart.OtherspointtosimilarchallengesinusingNSPfundsinacompetitiveenvironmentwheremanypropertiesaresoldsinglyandinas-iscondition.Insomeareas,NSPadministratorscanonlywatchaspropertiesareboughtinbulkbyinvestorswhocanaffordtodosoandwhoarenotconstrainedbystrategicneighborhoodstabilizationplans.Bycontrast,NSP’sprogramstipulations(environmentalandothers)hindercommunities’abilitytobidonpropertiesandlimitbidamountstomaintaintheaffordabilityofrehabbedproperties.Withrareexceptions,municipalitiescannotbenimbleorflexiblebuyers.

Craig Nickerson describes the National Community StabilizationTrust as an effort tobrokerREOproperties for communitiesandnonprofitswithmajor servicers.TheTrustprovidesafirstlookatREOpropertiesfornonprofits,andalthoughapossiblecomplementtotheNSP,itstruggledinitiallytosecureagoodnumberofviablepropertiesfrompartici-patingservicers.FannieMaehasalsodevelopeditsownFirstLookprogramtosellREOpropertiestocommunitiesatadiscount.

Acquiring and redeveloping REOs is a demanding process fraught with considerableuncertainty. At the local level, some authors highlight the challenges practitioners face,including “toxic title” problems, rehabilitation needs, and difficulty in contacting prop-ertyowners, allofwhich impedeefforts topreventblightand toacquireand redevelopproperties.Determiningproperexitstrategiesinadvanceisdifficultundercurrentmarketconditions.Severalarticlesaddressquestionsfacingcommunities,suchaswhattodowithpropertieswherevaluescontinuetodecline,creditstandardsaretight,andpotentialbuy-ershaveimpairedcredit.Demonstratingtheirresolveandinitiative,theNewJersey–basedCommunityAssetPreservationCorporationsuccessfullycompletedthefirstbulkpurchase


by a nonprofit of foreclosed properties—47 in all, as described by Harold Simon—anaccomplishmentevenmoreimpressiveconsideringthatthesewerenotREOsalesbutnotesales,whichareevenmorechallenging.

The Importance of TargetingScarcefundsmakehardchoices.EvenathirdroundofNSPfunding,includedinthe2010financialreformbill,cannotadequatelyaddresstheREOinventoryintargetedNSPareas,muchlessthemassivenumberofREOpropertiesthroughoutthecountry.OnlyasmallfractionwillberehabbedordemolishedwithNSPfunds.IraGoldsteindescribesananalyt-icaldatatoolthatcanbeusedtoconductamarketanalysistotargetscarcefundsandapplyfresh strategies. Dan Fleishman details the varied development strategies that apply indifferentneighborhoodtypologies.

Innovative Approaches to Preserve ValueDespite the challenges, communities are responding in some innovative ways.ThomasFitzpatrickdescribesaCuyahogaCountylandbank,modeledonasimilareffortinFlint,Michigan,thatholdspropertiesuntiltheycanbereturnedtoproductiveuse.TheCuyahogaCountylandbankisfinancedbyfeesandfinesonpropertytaxes.Insomecases,proper-ties are demolished and converted to green space or altered to fill another communityneed.Inallcases,thelandbankcreatesvaluefromdamagedgoods.TheCuyahogaCountyLandReutilizationCorp.,betterknownastheCountyLandBank,istheleadagencyforaconsortiumofmunicipalandnonprofitpartnersinimplementingNSP2.TheLandBankhassuccessfullynegotiatedREOacquisitionagreementswithFannieMaeandHUDthatalignwiththeoverallvisionforneighborhoodstabilizationintheregion.

Another way to stabilize neighborhoods is to keep foreclosed properties occupied.AnecdotalreportssuggestthatmoreREOservicersarerealizingthatkeepingpayingten-antsinhousesmaybethebestavenuetomaintainingtheproperty’svalueandthequalityoftheneighborhood—particularlyiftheonlyalternativeistotrytosellinamarketwithhighREOvolumes.ElyseCherryandPatriciaHanrattydescribeamodeldevelopedbyBostonCommunityCapitaltopurchaseforeclosedpropertiesandsellthemback,eithertotenantsortotheproperty’sformerowners,usingalicensedmortgageaffiliate.Inasimilarvein,DaniloPelletieredescribestheneedtocreaterentalhousingfromtheinventoryofforeclosedhomes,notonlytoprovideaffordablehousing,butalsoasamethodtostaveoffblightanddisinvestment.

Bringing the Government and Community to BearNeighborhoodstabilizationisaboutmorethanacquiringproperties.Municipalitieshavetools,suchascodeenforcement,fines,andother legaloptions,toaddressproblems.Forexample, inordertoresolve issuesofneglect,courtscanappointareceivertotakecon-trol—butnotownership—ofaproperty.Insomecases,threatofreceivershipordemolitionisenoughtospurrecalcitrantactorstoaddressblightandsafetyissues.FrankFord’sarticlehighlightsthephenomenonofbank“walkaways,”wherefinancialinstitutionsfailtopur-sueorclaimtitletovacantandabandonedproperties.Heshowshowproperty-baseddataandcommunitypartnershipscanhelporganizationsintervenetohelphomeownersstayintheirhomesandtotargetresourcesforREOacquisition.


Formanycommunities,neighborhoodstabilizationmayinvolverethinkinghousingpolicyandretoolingplanstoadapttotherealityofshrinkingpopulationsandtooffermoregreenspaceandaffordablerentalhousingtoattractandretainresidents.Preservingneighborhoodsinvolvescomplementaryinterventions—suchasinvestmentsinpoliceandfiresafety,light-ing,andmaintainingstreets—thatpreservetheperceptionofthecommunityasagoodplacetolive.Thesetypesofinvestmentsmay,infact,besomeofthemostcost-effectivestrategiesofall.Manycities,whichhavememoriesofpastcrises,haveintervenedcomprehensively.TheentireregionofNortheastOhio,forexample,isengagedinthinkingthroughland-usechallenges,ledbytheYoungstownandClevelandexamplesof“shrinking,”or“right-sizing.”Cleveland’scommunitydevelopmentindustryisengagedin“reimagining”themetropolitanareatofindstrategiesforputtingpropertiesintoproductivereuse,includingthepossibilityofurbanagriculture.

Understanding Private-Sector Methods and IncentivesNegotiating for the disposition of REO property does not typically involve the lender,since themajorityofmortgage loanshavebeensold into the secondarymarket.Rather,communitiesor theiragentsmustnegotiatewith the loan’s servicer,whohasafiduciarydutytothemortgageholdersandmaybeguidedbyotherincentivesaswell.Thisdoesnotnecessarily conflictwith community interests. In fact, several articles report thepositiveresultsof collaboratingwith servicers, althoughmanyothersdescribe the steep learningcurve involved in negotiating successful transactions. Terry Theologides outlines theservicerguidelines in theREOprocess,withaneye toward improving thecommunity’sability to understand and work within the process. He also highlights an unintendedconsequenceofforeclosuremoratoriumsbypointingoutthattheextensionofforeclosuretimelinesincreasesthechancethatvalueisdestroyedasthepropertydeteriorates.Onceapropertyhasbeenabandoned,thereisnoeconomicreasontodelayitsreturntoproductiveuse.JayRyanofFannieMaeoutlinesthepracticesbeingdevelopedbythisholderofahugeREOinventoryandhighlightsstepstheagencyhastakentoavoidvacanciesandconveypropertiestomunicipalitiesandnonprofitsasefficientlyaspossible.

TheCommunityReinvestmentAct(CRA)hasbeenshowntoinfluenceprivatecapitalandactivity by CRA-regulated financial institutions. Mike Griffin shows why the proposedCRArulesonneighborhoodstabilizationeffortsinareasdesignatedforNSPdollarsmaygivebankssufficientincentivetomakefurtherinvestmentintheseareas.

ConclusionTaken together, these articles provide hard-headed facts and advice for those trying topreservethecharacterandvitalityofneighborhoodsendangeredbyforeclosures.Wealsothinktheyprovidesomemeasureofhopethatcommittedpractitionersandpolicymakerscanaddresstheissueofneighborhoodstabilizationeffectivelyandcreatively.Communitygroupswerequicktoidentifytheproblemandarticulatethefears.Severaloftheinitiativeshighlightedherearetheproductofmanypeople’sdetermination,innovativethinking,andwillingnesstoworktogether.Wededicateourpublicationtotheirefforts.

Prabal Chakrabarti FederalReserveBankofBoston

Mary Helen PetrusFederalReserveBankofCleveland

Matthew LambertFederalReserveBoardofGovernors


Section I: Research and Analysis

The Scope and Nature of the REO Challenge


As the foreclosure crisis has spread, the term“REO property” has gone from somethingonly specialists were familiar with to nearly ahouseholdword.Withforeclosuresatepidemiclevels and foreclosure sales daily events, thenumber of REO properties has skyrocketed.1

Their increasing number has affected housingmarketsandneighborhoodstabilitythroughouttheUnitedStates.Thisarticlewillexploretheeffects of these lender-owned properties, andhow those effects are likely to change in thefutureasthenatureoftheforeclosuretrajectorychangesandthepotentialofalooming“shadowinventory” of properties that are in default orforeclosure—butnotyetREO—grows.Whilemuchoftheanalysisinthisarticleisbasedonthe author’s research into these issues in theareaofPhoenix,Arizona,thearticle’sfindingsandconclusionsapplynationwide.

REO Properties, Housing Markets, and NeighborhoodsSince the onset of the foreclosure crisis in2006,mortgagedefaultsandforeclosureshavesteadilyincreased,andwiththemthenumberofpropertiesreacquiredandputbackonthemar-ketbylenders.Becausethosehouseshavecomeon the market at a time of sharply reducedoverallhousingdemand, theyhavehadadra-maticeffectonhousingmarketsthroughouttheUnitedStates.

REO sales are as much arm’s-length transac-tions between willing buyers and sellers asany other sales. Large numbers of them can,however, drastically distort market condi-tionsrelativetowhatwouldtakeplaceintheirabsence.2 REO properties are often in poorer

conditionthanpropertieswithsimilarphysicalorlocationalfeaturesinthetraditionalmarket,and—oncethepropertyfinallyreachesthemar-ket—REOsellersarehighlymotivatedtosellasquicklyaspossible,oftendumpingorunload-ingpropertiesinsubstandardoruninhabitablecondition tobuyerswhohaveno intentionofoccupyingorimprovingthem.Evidenceofsuchactivityismostlikelytobeseeninweak-marketareas.3 REO sellers are subject to few of thepsychologicaloreconomicpressuresthatdeterhomeownersfromloweringtheirpricestoreflectmarketrealities,orthepracticesthathavemadelendersreluctanttoapproveshortsalesbyhome-owners.4REOsellersalsoengageinbulksalesofpropertiesratherthanindividualtransactions,where,inreturnforlowertransactionandhold-ingcosts,theymayacceptasubstantialdiscountonthepriceofpropertiessoldindividually.

ThemarketeffectofREOpropertiesisalmostalways negative. REO property sales pulledpricesdownin31of34statesanalyzedbytheauthorwithdatafromLPSAppliedAnalyticsusinga repeat salesmodel.Asfigure1 shows,the larger the shareofREOproperties in themarket,thegreatertheeffectontheareahousepriceindex.5Wealsosee,however,afewoutliers.ThepriceeffectofREOsalesintheDistrictofColumbiaandtheStateofVirginiaismuchlessthanwouldbesuggestedbythenationalpicture.Thereasonislikelytobefoundintherelativemarket strength of these areas, rather than inanydifferencesinthecharacterorconditionofthehousingstock.AlthoughrapidappreciationinthoseareasduringthebubbleyearshasledtohighlevelsofforeclosuresandREOinventory,the continued stronghousing-marketdemand

by Alan MallachBrookings Institution

REO Properties, Housing Markets, and the Shadow Inventory


in the District of Columbia and NorthernVirginia appears to have mitigated the priceeffectofREOsalesontherestofthemarket.These are exceptions to an otherwise largely

consistent pattern of declines in house pricesduetohighnumbersofREOs.

Theprice-depressingeffectofREOsaleshasasecondimpactontherealestatemarket.REOsalesdriveoutnon-REOsales.IfREOprop-ertiesarepriced lower than similarnon-REOproperties on the market, rational buyers aremorelikelytoseekouttheselower-pricedprop-erties. As a result, REO properties sell fasterthannon-REOs.ThesedynamicsarevisibleinthePhoenixhousingmarket.6InMay2009,thelistingsuccessrate,definedasthepercentageoflistingsthatclosedwithasaleratherthanexpir-ingorbeingcancelledwithinadefinedperiod,was90percent forREOsales, 41percent fortraditional sales,7 and 37 percent for shortsales.8ThustheshareofREOsaleswillgener-allybegreaterthantheshareofREOpropertiesonthemarket,furtherdepressingprices.Asfig-ure2shows,whendemandbegantoincreaseinthePhoenixmarketduring2008, the increaseinsaleswasconcentratedintheREOmarket.Most non-REO sellers, in contrast, saw noimprovement in theirproperties’marketabilityfromtheoverallincreaseinsalesactivity.

REO sales as a percent of total sales

Figure 1 Effect of REO Sales on House Prices by State*January – June 2009

*Each square represents a different state. In some cases, state data represent market area in major metropolitan areas only.Source: Analysis by author based on data from LPS Applied Analytics

REO market effect

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Foreclosure Sales The end of the foreclosure process (also called a sheriff’s sale in some states). Can lead to REOs if properties are not purchased by a third party

REO SalesWhen REO properties are offered for sale by the lender

Short Sales Property transactions where the selling price is less than what is owed on the mortgage; often the only way for an underwater mortgagee to avoid foreclosure. Short sales require the approval of the lender


Number of sales

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Figure 2 House Sales, Phoenix Metropolitan Area June 2007 – February 2009

Source: The Cromford Report/data from Arizona Multiple Listing Service

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Figure 3 Distribution of Real Estate Sales, Phoenix Metropolitan AreaMarch – December 2009

Source: The Cromford Report/data from Arizona Multiple Listing Service

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During 2009, however, the picture becamemorecomplicated,asthemarketshareofshortsales increased—paralleling the increase inshort sales—while the REO share decreased.Bytheendof2009, thenumberofshort-saleMLS listings in Maricopa County exceededthenumberofREO listings.BetweenMarchand December, as the local housing marketshowed tentative signs of stabilization, shortsales jumped from8percent to29percentofallrealestatesalesinthePhoenixMetropolitanArea.9 During the same period, as shown infigure 3, REO sales plummeted and tradi-tional sales rebounded, although they grew atamoremodestratethanshortsales.Aswillbediscussed below, short sales increased nation-wideduringthesameperiod,althoughatalessdramaticpace.

In sum, the wave of REO properties that hitmetropolitanrealestatemarketswiththecol-lapse of the housing bubble and the rise offoreclosures has contributed significantly tothe collapse of house prices, although manymarkets were so overpriced that a significantcorrectionwouldarguablyhavebeeninevitable.Even in regions where the overall effects ofREOpropertiesmaybelesspronounced,theireffectscannonethelessbe farmore intense inspecificareaswithinthoseregions.Forexample,the Northside neighborhood in MinneapolisandBrooklynCenter,aninner-ringsuburbofthat city, have been affected far more heavilythantheTwinCitiesregionasawhole.

Measuring the effects of REO properties onneighborhood stability is more complicated.The neighborhood impact of an increase inREO properties stems less from the numberofpropertiesthanfromwhathappenstothemoncetheygothroughforeclosure.TheimpactofanREOpropertythatsitsvacantandboardedup for a year after a foreclosure sale is farmoredamagingthanthatofapropertythatisquicklyfixedupandsoldatanaffordablepricetoahomebuyer.Whileit ishardtopindownwhatishappeninginneighborhoodsacrossthecountry,afewobservationscanbemade.

Inmostpartsof theUnitedStates, fewREOproperties,onceputonthemarket,simplysit.During the first five months of 2009, some20,000propertiesweresoldatforeclosuresalesinMaricopaCounty,ofwhich1,000to2,000were bought byparties other than the lender,thus escaping the REO inventory. Duringthe same period, nearly 23,000 REO proper-ties were purchased in the same area, leadingtoasignificantdropintheinventoryofREOproperties on themarket.Similar increases inpurchasesofREOpropertieshavebeenseeninmanydifferentmarketareasnationwide.Whathappenstotheseproperties?

Where an REO property is acquired by anindividual homebuyer, it is likely that anyneighborhoodimpactistransitory.Themagni-tudeof that impact, asnotedabove, is largelyafunctionofhowlongthepropertysatvacantpriortoresale.Theshortertheperiodfromini-tial notice to foreclosure sale, and from thenuntilthepropertyisresoldandreoccupied,theless the impact. Inmanyareas,however,mostREOpurchasesaremadebyinvestorswhowillnotactuallyoccupythepropertythemselves.Infact, the level of investor activitydwarfspub-lic sector and CDC investment. We estimatethattotalabsentee-buyerinvestmentinone-tofour-familyhousesinthePhoenixmetropolitanareaduringthesecondhalfof2009alonewasbetween$1.5and$1.8billion,vastlyexceedingpublic-sectorandCDCinvestmentduringthesameperiod.10

In such cases, neighborhood impacts varywidely. In areas where responsible inves-tors plan to hold and rent properties for anextended period, the impact may be mod-est. One might prefer to see those propertiesbought by owner-occupants, but that is oftennot a realistic alternative. The most likelyalternative to an investor purchase is that thepropertywillremainempty.Thisbuy-and-holdstrategy appears to be common in SunbeltcitieslikePhoenix,wheremostinvestorsappeartobeplanningtokeeptheirpropertiesforfiveyears ormore.Thepicture is verydifferent inother weak-market locations, including many

The neighborhood impact of an

increase in REO properties

stems less from the number of

properties than from what

happens to them once they

go through foreclosure.


parts of Detroit and Cleveland, and in verylow-value neighborhoods in other cities, suchas Atlanta’s Pittsburgh neighborhood.11Theseareasareattractingshort-terminvestors,whosespeculative actions are farmoredestructive toneighborhood stability than those of longer-termbuy-and-holdinvestors.

Areas that draw these longer-term buy-and-holdinvestorsappeartohavetwokeyfeatures.First,acquisitioncosts,althoughlowenoughtopermitapositiverentalcashflow,arestillhighenough to require due diligence by the buyerand to make flipping—reselling just-boughtproperties at higher prices with no improve-ments—a less attractive strategy. Second, thearea has strong enough rental demand for alandlordtomaintainastabletenantbase.ThisistrueinPhoenix,wherealargepartofinves-tors’tenantpoolconsistsofformerhomeownerswhohave lost theirhomes to foreclosure.12Inotherareas,wherethemarkethascollapsedandhousesarebeingunloadedtoinvestorsfornomi-nalamounts,theinstabilityofthemarketdrawsshort-termspeculativeinvestors,whomaybuyhousesinbulk,sightunseen,andpursuequick-returnstrategiesthatfurtherunderminealreadydeeplydistressedcommunities.

Thus,theneighborhoodeffectofREOproper-tiesisafunctionoftheirvolume,thedynamicsof themarketwheretheyarepresent(includ-ing time left on the market), and how thosedynamics affect buyer behavior. While thissubject needs closer study, we can add onemoreobservation.Localgovernmentsaffectedbydestructiveinvestorbehaviorarenotpowerlesstoinfluence that behavior. Licensing ordinances,inspections,andotherregulatorytools,aswellas incentives for responsible property owner-ship,areallopportunitiesforlocalofficialsandCDCs to influence investorbehavior inordertominimizeneighborhooddestabilization.

The Future Course of REO Properties and the Looming Shadow Inventory Few observers believe that the foreclosurecrisishas run its course.Although the rateofdecline has slowed and the volume of overall

sales transactions has increased, house pricesin many areas are still dropping. In addi-tion, unemployment remains at dangerouslyhigh levels.Data from theMortgageBankersAssociation’s National Delinquency Surveyindicatethatthenumbersofdelinquentmort-gagesandforeclosurefilingshavecontinuedtogrow,withnosignoflevelingoff.Itwouldseemlogical,therefore,thattheflowofREOproper-tiesontothemarketshouldalsoincrease.

Thisdoesnotappeartobehappening.During2009, therelationshipbetweenthenumberofdelinquencies and foreclosure filings and thenumber of completed foreclosures—the bestavailable indicator of the size of the REOinventory—shifted markedly. As the numberof new REO properties entering the marketstayedlevelordeclined,speculationarosethatservicers,seekingtokeephousepricesfromfall-ingevenfurther,hadbeguntorationtheflowofpropertiescomingonthemarket.That,inturn,suggested—assumingthosepropertieseventu-allyhadtomaketheirwayontothemarket—abacklogwasaccumulatingthatmightleadtoasuddeninfluxofREOproperties,furtherdesta-bilizingmarketsandneighborhoods.

Although it can’t be ruled out entirely, thereappearstobenoevidencetosupportanexplicitrationing theory. There are, however, solidexplanations for why the REO inventory hasnotkeptpacewithdelinquenciesandforeclo-surefilings.Someof thesearise fromthewaythe foreclosure process has gradually evolved,and others from changes in lender and ser-vicerbehavior,whichmay indeedbe intendedin part to reduce or slow the flow of proper-tiesintoREOinventory.Whilesomeofthesetrends may help some properties avoid REOstatusentirely,otherscouldleadtopotentiallydestabilizing future property flows into theREOinventory.

Foreclosure is no longer a speedy and pre-dictable process in many states. Figure 4, ageneralized representation of the foreclosureprocess from initial filing to foreclosure sale,showsthattherearemanypointsintheprocess


at which a property can be temporarily orpermanentlydivertedfrombecominganREOproperty.Around thesediversionpoints, stepshave been added to the foreclosure process,including moratoria or forbearance periodsenactedbymanystatesinordertopromoteloanmodifications,which increase the lagbetweeninitial filing and the ultimate outcome by 60days to six months. While a successful loanmodificationorshortsaledivertsthepropertyfrom REO inventory, unsuccessful attemptsaddtothetimebetweenthefilingandthesale.Incaseswhereaborrowerhasreceiveda loanmodificationandsubsequentlyredefaulted,theproperty returns to the foreclosure track, butonlyafterayearormore.13

Short sales and third-party purchases atforeclosure sales both divert significant num-bers of properties from the REO inventory.Theyreflectnotonlyincreasedmarketdemandfor residential properties, but also servicers’greater readiness to accommodate alternatives

toforeclosureandtakingpropertiesintoREOinventory.Asfigure3 shows, short salesgrewfrom8percentto29percentofallsalestrans-actions in Phoenix during 2009. Nationaldata show a significant, though less dramatic,increaseinshortsalesduringthesameperiod,with short sales nearly doubling from thefourthquarterof2008to the thirdquarterof2009.14 During the same period, the numberof properties that were bought by end usersat foreclosure sales rose from5percent to 20percent.Weestimatethatattheendof2008,aforeclosurefilinginPhoenixhada60percentprobabilityofbecominganREOproperty.Bytheendof2009,thatprobabilityhaddeclinedto 39 percent. Assuming a constant level offoreclosure filings, these changes alone wouldreducethenumberofpropertiesaddedto theforeclosureinventorybymorethanathird.15

REOflowisfurtherreducedbytheslowerpaceof the foreclosure process and changes—bothintentional and capacity-related—in servicers’

largest seller = 353 properties

Figure 4 The Foreclosure Process and the Diversion of Properties from the REO Inventory

No REO created

REO property created

No REO created

No REO created No REO created

Owner cures default

Owner goes into default

Property boughtby lender

Property bought by third party

Foreclosure sale

Loan modification

approved

Owner stays

current

Owner requests loan modification

Loan modification

rejected

Owner re-defaults

Short sale

Foreclosure track


behavior. Changes include a greater readinesstodefer foreclosure in situationswheremort-gage holders remain in the property, and areluctancetoputtenant-occupiedREOprop-ertiesonthemarketuntilafterthetenantshavevacatedthem;thedelaycanleadtoaproperty’snot being listed until many months after theforeclosure sale.16 In extremely weak markets,servicersevenforgofinalizingforeclosuresandsimplywalkawayfromproperties,leavingtheminlegallimbo.

The effect of these changes can be seen infigure 5, which compares the trends in com-pletedforeclosures,newforeclosurefilings,andthe number of properties in the foreclosureprocess since the beginning of 2008. Whileforeclosure completions have stayed roughlylevel and filings have grown moderately, thenumberofproperties in thepipelinehas sky-rocketed, highlighting the greater duration oftheforeclosureprocess.Fromanaverageoffivemonthsatthebeginningof2008,thelengthoftime from initial filing to resolution (through

foreclosure, short sale, loan modification, orotherwise) had grown to nine months by thefallof2009.Whilesomeofthepracticeslead-ing to this trend may be constructive—andothers, like walkaways, highly destructive—none reduces the ultimate REO inventory.Theyonlyconstrainitsapparentgrowthbyput-tingitofftoalaterday.

Thehousingmarkethasmajorproblems that,coupled with continued high unemploymentand uneven economic growth, could undowhatlittlestabilitysomemarketshaveachievedand further exacerbate the weakness of still-unstableareas.Lookingforward,threeseparatefactorssuggestahighriskoffutureincreasesintheREOinventory.

Large numbers of loans in the foreclosure process will ultimately be liquidated.Although increased use of short sales willremove many properties from the foreclo-sure process, ultimately the still-rising tide ofdefaultsandforeclosurefilingsislikelytolead

Number of mortgages*

Quarter/year

Figure 5 U.S. Foreclosure Trends by Quarter2008 – 2009

Source: The Cromford Report/data from Arizona Multiple Listing Service* Sample represents roughly 60 percent of all mortgages

Foreclosures completedNew foreclosures filedForeclosures in process

Q12008

Q22008

Q42008

Q32008

Q12009

Q22009

Q32009

0

200,000

400,000

600,000

800,000

1,000,000

1,200,000


toanincreaseinforeclosuresandintheREOinventory. This overhang of potential addi-tions to the inventoryofREOpropertieshasbeenestimatedat7millionpropertiesnation-wide.17Thisisparticularlylikelyif,aswastruethroughmid-2010,fewdefaultsarecured,fewloan modifications become permanent, andthosethataremodifiedhaveahighre-defaultrate. The movement of these foreclosuresthrough thepipelinewillbe slow,butbarringmajorpublicpolicy changes, theyareunlikelyto be removed from the pipeline. This couldeasilyresultinanincreaseintheREOinventoryduring2010.

Demand may be unstable.Two factors couldpotentially dampen homebuyer demand: thefederal homebuyer tax credit’s expiration inApril2010andthepossibilitythattheFederalReserve may begin to raise interest rates in2010. While these factors have much lessimpactoninvestors,thehousingmarketover-all could be affected by rising rental vacancyrates and dropping rent levels. Average rentsfell 12.5 percent in the Las Vegas area fromtheendof2008totheendof2009,andnearlyasmuch in thePhoenix area.18Whilepartofthis reflects the near-collapse of the multi-familyrentalmarketintheseareasasaresultofsingle-familyrentalsfloodingthemarket,italsosuggests that the latter market—Phoenix’s—maybe approaching saturation.19Lower rentsandhighervacancyratescoulddeterinvestors,particularly responsible ones, from continuingto buy REO properties, while pushing pricesdownward. If demand frombothhomebuyersand investorsdeclines significantly, that couldundermine the nascent positive trend towardhighervolumesofshortsales.

The future of millions of underwater borrowers remains unresolved. The largestquestion mark for the housing market is thevast number of underwater borrowers. At thebeginningof2009,estimatesofthetotalnum-berofunderwaterborrowersnationwiderangedfrom11to15million.ADeutscheBankstudyestimatedthatthenumbermayreach25million

by2011,bywhichtime80percentormoreofborrowers in 20 metropolitan areas will beunderwater.20Bymid-2009,therewere49dif-ferent metropolitan areas where 40 percent ormoreofallmortgageholderswereunderwater,largely in the most heavily affected Sun Beltstates, like Nevada, and Rust Belt states, likeMichigan and Ohio. Nearly 70 percent of allmortgages in the Las Vegas area were under-water, as were more than 50 percent of themortgagesintheDetroitarea.21

While owing more on one’s mortgage thanthehouseisworthdoesnotnecessarilyleadtoforeclosure, itboth increases the likelihoodofdefaultandreduces theowner’smotivation toavoid foreclosure, particularly when the valueofthepropertyfallssofarbelowthemortgageamountthattheownercanseenorealisticpros-pectofeverregainingameaningfulequitystakeinthehome.Forty-fivepercentofallmortgageholders inNevada, andaquarterof allmort-gageholdersinArizonaandFlorida,havemorethan25percentnegativeequity;fromthatlevel,it would take 10 years of modest but steadyappreciationtoreachapointwheretheownermighthopetobeginbuildingequity.

Right now, the majority of underwater mort-gages are not in default. However, largenumbers of strategic defaults (decisions byunderwaterborrowerstodefaultonmortgagesdespitebeingeconomicallycapableofmakingthepayments)arearealpossibility.Onestudyestimated that 588,000 such defaults tookplace in2008,or18percentofalldelinquen-cies of more than 60 days during the year.22For an owner with a $250,000 mortgage ona Phoenix- or Miami-area home that is nowworth $100,000 or less, the strategic defaultoptioncanlookcompelling.Whilesomearguethat such behavior is morally reprehensible,othersconsideritarationalmove,notonlyforthemortgageholderbutalsofortheeconomy.23Should largenumbers of underwater borrow-erschoosethatcourseoverthenextfewyears,the number of foreclosures could rise sharply,furtherswellingtheREOinventory.

Lower rents and higher vacancy

rates could deter investors,

particularly responsible ones, from continuing

to buy REO properties.


ConclusionFinally, the economy itself remains unsettled,with unemployment rates and uncertaintyabout the futureboth remaininghigh. In thisclimate,itwouldbefoolishtoattempttopre-dict the future; fewpeople,afterall,predictedthechanges to themarket thatwouldemergeduringthecourseof2009.Lookingforwardtothenexttwoyears,however,itappearsthatriskfactors are accumulating and that the shadowinventory isa loomingreality. If, asa result, asignificantlylargervolumeofpropertiesstarttocomethroughtheforeclosurepipelinein2010and2011,thereisaseriousquestionwhetherastill-fragilemarketwillbeabletoabsorbthem,orwhether theywill lead to reneweddeclinesinhousepricesandincreaseddestabilizationofAmericanneighborhoods.

Alan Mallach is a non-resident senior fellow atthe Brookings Institution and a visiting scholarat the Federal Reserve Bank of Philadelphia. Asecond and revised edition of his book, BringingBuildings Back: From Abandoned Propertiesto Community Assets, will be published in thefallof2010.Endnotes1 Theprocessbywhichaforeclosureiscompleted,andthe

propertyiseithersoldortakenbackbythelender,goesby different names in different states—foreclosure sale,sheriff ’ssale,trusteesale,orforeclosureauction;inafewstates,suchasConnecticut,titleistransferredbyjudicialdecree rather thanby sale. In the interest of consisten-cy, theprocesswillbe referred toasa“foreclosure sale”throughoutthisarticle.

2 Evenbefore theaccumulationof evidence fromcurrentmarket conditions, a body of scholarly literature hademerged in support of this point; it is summarized inAnthony Pennington-Cross, “The Value of ForeclosedProperty,”Journal of Real Estate Research28(2):193–214.As Pennington-Cross shows, a number of separate pa-pershaveindicatedthatthe“foreclosurediscount”—thedeviationbetween theexpectedpriceorappreciationoftypicaloraveragepropertyandthepriceorappreciationofforeclosedproperty—isintherangeof22–24percent.This appears consistent with the author’s findings inPhoenix,discussedbelow.

3 While there is little literature focused exactly on thispoint,seeClaudiaCoulton,MichaelSchramm,andAprilHirsh, “Beyond REO: PropertyTransfers at ExtremelyDistressed Prices in Cuyahoga County, 2005–2008,”Cleveland, Oh.: Center on Urban Poverty and Com-munityDevelopment,CaseWesternReserveUniversity,

2008; and Alex Kotlowitz, “All Boarded Up,” New York Times Magazine, March 4, 2009, for two stronglysuggestive assessments, one statistical and the othervividlyreportorial.

4 Seeendnote8.5 ThebaselineoftheindexisJanuary2000.6 Theauthor is currentlyconducting research into trends

in REO sales to investors in the Phoenix and NewHaven,Connecticut,housingmarketsandintotheeffectof investorpurchasesonneighborhoodconditions,withsupportfromtheLocalInitiativesSupportCorporation.ThePhoenixdatapresentedinthispaperwerecollectedbytheauthoraspartofthatresearch.

7 Traditional sales are those where there is no distressassociated with the transaction; they typically excludeREOsales,foreclosuresales,andshortsales.

8 TheCromfordReport,basedondatafromtheArizonaMultipleListingService.Shortsales,inwhichthesellingpriceislessthantheamountowedonthemortgage,areoftentheonlywayforahomeownerwhoisunderwatertosellherhomeandavoidforeclosure.Suchsalesrequiretheapprovalof the lender.Althoughdataon thispoint arelacking,itisreasonabletoassumethatshortsalesarelike-lytoreflectgreaterpricereductionsthanothernon-REOtransactions.Intheory,thesuccessrateshouldbehigherfor short sales than fornormal transactionsbecause theseller’smotivationshouldmakethepricingmorerealistic;thepriceeffect,however,iscounteractedbytheobstaclestoasuccessfultransactionimposedbytheneedtoobtainlender approval of the transaction. Widespread reportsindicatethatlenderapprovalisofteneitherdeniedorisdelayed to such an extent that many potential transac-tions fall through;however, thereare strong indicationsthatlendersarebecomingmoresupportiveofshortsalesas they recognize that such sales are often preferabletoforeclosure.

9 ArizonaRealEstateInvestorsAssociation,basedondatafromtheCromfordReport.

10DataQuick provides data on the median sales price bymonth for the Phoenix MSA as well as an estimate ofinvestor-buyers, using files where the address of recordfor tax purposes is different from the property address.Thelatter,however,significantlyoverrepresentsthenum-berofinvestors,sincethePhoenixmarketincludeslargenumbersofsecond-homebuyers.Tomakethisestimate,wehaveassumedthatonly80percentoftheDataQuickfilesactuallyrepresentabsenteeinvestors,andthattheiraverage purchase price was 65–80 percent of the MSAmedianprice.

11SeeAlyssaKatz,“ThereGoes theNeighborhood,”The American Prospect, September 10, 2009, for a powerfuldepiction of destructive investor activity in Atlanta’sPittsburghneighborhood.

12This point was made separately by a number of infor-mants,whocitedtwoparticularreasons.First,thestrongpreferenceofformerhomeownersforsingle-ratherthanmulti-familyrentals;andsecond,thefactthat landlordswith smaller numbers of properties are less likely tobe strict about a tenant’s credit score and more willingto overlook the foreclosure in light of a strong job


historyandotherfactors,comparedtothemoreformalownership and management structure of most apart-mentcomplexes.

13Of all loan modifications made during the second halfof 2008, 53 percent had re-defaulted; that is, were atleast 60 days delinquent, within nine months after themodification.OfficeoftheComptrolleroftheCurrency,OCCandOTSMortgageMetricsReport,ThirdQuar-ter2009.

14OfficeoftheComptrolleroftheCurrency,citedabove.15Forpurposesoftheanalysis,wemadetheseassumptions:

1)30percentofdefaults inwhichan initial foreclosurefilingismadearecured;2)therateofloanmodificationsincreasedover thecourseof theyear from5percent to8percentoffilings;and3)there-defaultrateafterloanmodificationsheldconstantat60percent.

16Under federal law, effective April 2009, entities takingtenant-occupied properties through foreclosure musthonorthetermsofoutstandingleasesandallowtenantswithoutleases90daystovacate.Somelendersandreal-tors speed up the process by offering tenants “cash forkeys”asanincentivetovacateearly.

17Amherst Mortgage Insight/Amherst Securities GroupLP.“HousingOverhang/ShadowInventory=EnormousProblem,”September23,2009.

18DatafromRealFacts,quotedinHubbleSmith,“Ifyou’relooking to rent, now is the time: Prices down 8.2 per-cent inLasVegas,” Las Vegas Review-Journal,February3,2010.

19OnePhoenixinformantestimatedthatthevacancyrateforgardenapartmentsinthatareawasinthevicinityof25percent.

20KarenWeaverandYingShen,“Drowning inDebt—ALook at ‘Underwater’ Homeowners.” Deutsche BankSecuritizationReport,August5,2009.

21Datafromloanperformance.WeaverandShenestimatethat the percentage of underwater homeowners in theLasVegasareawas81percentinthefirstquarterof2009.

22The studywas conductedbyExperian, a credit report-ingfirm,andtheconsultingfirmOliverWyman,andwasreportedbyKennethHarney,“Homeownerswho‘strate-gicallydefault’onloansagrowingproblem,”Washington Post,September20,2009.

23See,forexample,acolumnbyDeanBakeroftheCenterfor Economic Policy Research, “Walking away fromnegative equity,” the Guardian, February 1, 2010. Thecomments on this column offer a microcosm of thespectrum of opinion on this subject; see http://www.guardian.co.uk/commentisfree/cifamerica/2010/feb/01/goldman-sachs-negative-equity.


Driving along California’s Interstate 580,the freeway that connects San Francisco toStockton,thelandscapeofnewlybuiltsubdivi-sionsishardtomiss.Neatrowsofclay-coloredroofs,allofwhicharethesamesize,thesameshape,andextendjusttotheedgeoftheprop-erty line,flankbothsidesof theroad.Ahugesign hanging from the concrete wall thatencircles onedevelopment reads,“If you livedhere, you’d be home already,” beckoning newbuyers with the promise of a three-bedroomhomewithatwo-cargarage.Attheexitramp,there’s a Target, a Home Depot, a few gasstations,andafastfoodrestaurantortwo.Anda drive-through Starbucks, providing much-needed caffeine to early morning commutersheadedtowardthedistantlabormarketsofSanFranciscoandSanJose.

Get off the freeway, however, and the repeti-tive roofline of these communities disappearsfromview.Theneighborhoodsaremuchmorevibrant and varied. Yards are decorated withpersonal tchotchkes, ranging from statuesof theVirginMary toflags in support of theA’s or the Giants; strollers, Big Wheels, andbasketball hoops hint at the ages of the kidsinside. The residents themselves represent awide range of ages, races, family types, andnationalities, and a sunny afternoon revealswomenwalkingaroundincolorfulsarisaswellas elderly African-Americans tending theiryards.UnliketheLevittownhomesandexclu-sionarycreditmarketsthatfueledthesuburbansprawlofthe1950sand60s,thesenewsuburbanspaceshaveprovidedhomeownershipopportu-nitiesforamuchmorediversepopulation.

Since 1990, subdivisions such as these havesprungupalloverurbanAmerica,butnowheremore rapidly than in California, Nevada, andArizona. In Boomburbs: The Rise of America’sAccidental Cities, authors Lang and LeFurgypointoutthatareasthatwereoncesmallsubdi-visionswithobscurenamessuchasHenderson,Chandler, and Santa Ana have grown largerthan many better-known cities, includingMiami,Providence,St.Louis, andPittsburgh,and house an ever-increasing share of thenation’s urban population. By 2000, nearly 15million people lived in boomburbs and “babyboomburbs.”1Thatnumberhaslikelygrown,asnewconstructionfueledbytherecenthousingboomhasled,injustafewyears,toadoublingofpopulationincommunitiessuchasAvondale,Arizona,andElkGrove,California.

Whetherornot theseboomburbscontinue togrowisdependentat least inpartonwhetherthese neighborhoods can stabilize their hous-ingmarketsinthewakeoftheforeclosurecrisis.Indeed,itisnotonlyDetroitandClevelandthathavebeenhitbywavesofforeclosures:Someofthehighestratesofforeclosureandsubsequentconcentrations of real-estate-owned (REO)properties have been in both small and largersubdivisionsnearlargermetropolitanareas.

ThelargenumberandconcentrationofREOsin suburban communities has troubling pol-icy implications, since these areas often haveless-well-established community developmentinfrastructure.2 Local governments and non-profits may therefore have limited capacity torespond to the destabilizing effects of large

Shuttered Subdivisions: REOs and the Challenges of Neighborhood Stabilization in Suburban Cities

by Carolina K. ReidFederal Reserve Bank of San Francisco


numbers of vacant homes. In addition, moststrategies for addressing blight and vacantbuildings have been developed based on theexperiences of inner-city neighborhoods witholderhousingstock.Lessonsandbestpracticesfor how to respond to vacant and abandonedpropertyinsuburbancommunitiesarescarce.

This article seeks to fill that gap by explor-ing what is happening with concentrationsof REOs in suburban cities, focusing on thestates of California, Arizona, and Nevada.HowlongareREOsstayingonthemarketinthese suburban areas? What are the implica-tionsofvacanciesandhousepricedeclinesforthe long-term viability of these subdivisionsandtheservicesthatsupportthem?Willtheseboomburbs become ghost towns, particularlyasrisingenergycostslimittheattractivenessofneighborhoodsthatrequirelongcommutes?Orwillthecontinueddemandforhomeownershiptranslateintonewbuyersoncehousepricesandtheeconomystabilize?

The Wild West of Mortgage Lending: Subprime Lending in the SuburbsIt’sarealtragedy.Somanyfamiliesthoughtthatthey were moving out from [San Francisco] toAntioch to buy a home, have a real house for thekids with a yard and a neighborhood school, andnowthey’recomingbackandhavingtolivewiththeir parents or grandparents…it wasn’t afford-ableafterall.

—SanFranciscoforeclosurecounselorNovember2009

Inanearlypaperonthesubprimecrisis,KarenPence and Chris Mayer found that subprimeoriginations were heavily concentrated infast-growing parts of the country with con-siderable new construction, such as Florida,California, Nevada, and Arizona.3 Earlierresearch had primarily focused on neigh-borhood racial disparities in the geographicdistributionofsubprimelending,showing,forexample,thatsubprimeloansaremorefrequentin low-income neighborhoods than in upper-income neighborhoods, and more frequent inpredominately black neighborhoods thanwhiteneighborhoods.4

Figure 1 Boom and Bust of West Coast Housing Prices

0

50

100

150

200

250

2002 20082007200620052004 20092003

Riverside/San BernadinoSacramentoStocktonPhoenixLas Vegas

Source: FHFA House Price Index

FHFA House Price Index (100=2002)


Pence and Mayer’s paper also pointed to anew development in the geographic distribu-tion of subprime lending. Although initiallydefined as risk-based pricing for borrowerswith lower credit scores, “subprime” increas-inglybecameanumbrellamonikerforamuchwider range of nontraditional and alternativemortgage products, including interest-onlyloans, option ARMs, and loans that coupledextended amortization with balloon-paymentrequirements. Driving the demand for theseproducts in Arizona, California, and Nevadawasaneedforgreaterhousingaffordability;inmanyurbanmarketsinthesestates,houseval-uesnearlydoubledbetween2002and2006(seefigure1).Theuseofnon-traditionalmortgageproductsexplodedintandem.In2005,approx-imately two-thirds of all subprime mortgagesin Arizona, California, and Nevada includedexotic features such as option payments andhad limited or no documentation associatedwiththeloanorigination.5

In 2007, this boom came to an abrupt end.The rise in delinquencies and foreclosures inArizona, California, and Nevada was suddenand steep (seefigure2).At the startof2006,

these states had among the lowest seriousdelinquency rates in the country; by the lastquarterof2009,theyfareclipsedthenationalseriousdelinquencyrate,atrendthatdoesnotseemtobeabating.Thecombinationoffallinghousevaluesandtheoriginationof loansthatdid not consider a borrower’s ability to repayoverthe longtermhave ledtounprecedentedlevelsofforeclosure,withsignificantrepercus-sionsnotonly forneighborhoodsbutalso forcity governments that are grappling with thechallengesassociatedwithconcentratedvacan-cies and REOs. In two recent papers on thedistributionofREOs,DanImmergluckfoundthatREOswereconcentratedinmetropolitanrealestatemarketsthatsawlargeconcentrationsof subprime lending and high rates of houseappreciationinthefirsthalfofthisdecade,andthat suburban communities contained a largenumberofZIPcodeswithhighandseverecon-centrationsofREOs.6

Corresponding to the scale of the foreclo-sure crisis, these states also received a largeshare of funding under the first wave of theNeighborhoodStabilizationProgram(NSP1).Authorized in 2008 in response to growing

Figure 2 Serious Delinquencies in Western States

20082007200620052004 20090

2

4

6

8

10

12

14

16

18

20

ArizonaCaliforniaNevadaUnited States

Source: Mortgage Bankers Association, National Delinquency Survey

Percent of loans that are 90+ days delinquent or in foreclosure


concerns over the concentration of foreclosedhomes,NSP1allocatedmorethan$3.9billionin funding for the acquisition and rehabilita-tionofforeclosedproperties.Arizonareceived$121.1million,Californiareceived$529.6mil-lion,andNevadareceived$71.9million.Atthetime, the largest concernwas that thesegrantamountsweresmallincomparisontotheneed.

YettheimplementationofNSPinthesestateshasbeenchallenging,andmanygranteeshavestruggled with allocating the money withinthe 18-month timeframe. In part, difficultiesarosebecauseoftheNSP1programitself:theprogramwasadopted,designed,anddeployed

quickly and in a period of crisis, leading toinevitable implementation challenges. Butcity officials also found that the landscape ofREOpropertieswasverydifferent fromwhattheyhadanticipated.ItwashardtofindREOproperties in NSP1 target areas, for one, andcompetition from investors with cash offersresulted in numerous lost deals for cities andnonprofits. Why, for example, did North LasVegas,acitythathadmorethan4,000recordedforeclosuresbymid-2008,finditsodifficulttoidentifyandacquireforeclosedpropertiesunderNSP?Clearly, earlyassumptionsaboutREOsand trends in the housing market in theseWesternboomburbsdeservetoberevisited.

Table 1Sample Means for City Clusters

Established Core Cities Steady-Growth Cities Boomburb Cities

Number of loan observations in cluster 2,639,211 1,531,775 441,652

Percent change in population (2000–2008) 2.61 17.69 62.25

Percentage point change in Black share of overall population (2000–2008) –0.54 0.19 0.70

Percentage point change in White share of overall population (2000–2008) –3.46 –7.32 –6.16

Percentage point change in Hispanic share of overall population (2000–2008) 3.01 6.36 2.81

Percentage point change in Asian share of overall population (2000–2008) 1.86 1.15 2.73

Percent change in housing units (2000–2008) 4.24 18.18 62.71

Percent of units built after 2000 5.20 16.03 35.07

Median income 2008 $66,542 $58,889 $69,789

Appraisal amount $572,998 $365,394 $358,243

Percent high-cost loans 2004 10.95 17.06 12.53



Median house value 2008 $598,472 $374,095 $377,924

Source: Author's calculations of data from LPS, the American Community Survey, and the U.S. Census


Data and MethodsThis article examines vacancies and REOs inmore than 275 cities with a population over25,000 in Arizona, California, and Nevada.7These places include older and larger cities,such as Los Angeles, Oakland, and Phoenix,aswellassuburbancitiesthatgrewquicklyinboth housing and population during the sub-prime boom, such as Avondale City, Arizona,and Riverside, California. These cities werethenclassifiedintothreeclustersusingCensusdata and labeled as follows: a) established corecities,witholderhousingstockandslowerover-all population growth; b) steady-growth cities,whichsawamoderateamountofgrowthandinvestmentduringthesubprimeboom,butthathave a mixture of older and newer neighbor-hoodsandhousingstock,andc)boomburbcities,which saw rapid growth in both populationandhousingstockduringthesubprimeboom.8Despitethediversityofcitieswithineachclus-ter, boomburb cities saw very rapid changesbetween 2000 and 2008 (see table 1). Morethan a third of the housing stock in boom-burbcitieswasbuiltafter2000,comparedwith

just5percentinestablishedcorecities,andthepopulationbecameincreasinglydiverseasnewhouseholdssoughtthemoreaffordablehousinglocatedinthesecommunities.

DataonREOsarederivedfromaproprietaryloan performance database known as LenderProcessing Services (LPS) Applied Analytics,Inc. As of December 2008, the LPS datasetcoverednearly60percentof active residentialmortgages in the United States, representingabout 29 million loans with a total outstand-ing balance of nearly $6.5 trillion.The broadcoverageofLPSallows for comparisonacrossplaces, yet it also has drawbacks, particularlywhenonewantstodescribewhatishappeninginaspecificlocality.9Asaresult,thenumberspresentedhere shouldbe viewed as indicativeofbroadtrendsacrossthethreeclustersofcit-ies rather than as exact percents or estimatesoflocalREOstock.Thestatusoftheloansinthe database—for example, if they are seri-ouslydelinquent,inforeclosure,orinREO—isobservedmonthly fromJanuary2007throughFebruary2010.Inaddition,Idrawoninsights

Figure 3 Concentration of REO Properties in U.S. CitiesBy Cluster Type

2010200920082007

Source: Author's calculations of data from Lender Processing Services Applied Analytics, Inc., the American Community Survey, and the U.S. Census

REOs as a percent of housing units

0

0.1

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from interviewswith local leaders inmanyofthesecommunitiestosupplementthequantita-tiveresults.

What’s Happening in the Boomburbs?We’vebeencompetingwithinvestorsontheacqui-sition side formonths, losing out onanumber ofhouses.Nowwedon’tevenhaveachancebecausethehousesdon’tevenreachtheREOstage.

—NSPcoordinatorCentralValley,CA

Figure3illustratestheconcentrationofREOsin each category, measured as the percent ofREOs in relation to the number of housingunits.Thefigure illustrates two clearfindings:first, REO stock in boomburb cities is muchgreaterthanthatinestablishedcorecities;andsecond, the concentration of REOs increaseddramatically from early 2007 to the end of2008.InOctober2008,approximately1in100propertiesinboomburbcitieswereREOs.Yetthegraphalsoshowsthatsincethen,thecon-centration of REOs has fallen more quickly

in boomburb cities than in the other clusters.Although this could be attributed to a dropinthenumberofforeclosures,infact,thedatashow that the share of loans that are 90-plusdays delinquent or in the foreclosure pro-cess continues to rise steadily, and is greatestin boomburb cities. By February 2010, nearly5 percent of all housing units in boomburbcitieswereinthis“shadowinventory”ofhomesonthecuspofforeclosuresaleandtransitiontoREO(seefigure4).

Sowhat is driving thedrop inREOconcen-trations in these markets? One contributingfactorcouldbethepaceofREOsales.Figure5presentsdataonthenumberofREOssoldeachmonthasashareofalltheREOsonthemarket.Although REO sales were stronger in estab-lishedcorecitiesatthestartoftheforeclosurecrisis, REO sales rates in the three categorieshaveconvergedsincethestartof2009.Overall,aboutoneinfiveexistingREOpropertiesissoldeachmonth.BecausetheinventoryofREOsinboomburbcities issignificantlyhigher,greateroverallnumbersofREOsaresoldeachmonth,

Figure 4 Delinquencies and Foreclosures in U.S. CitiesBy Cluster Type

2010200920082007


Percent of Loans 90+ days delinquent or in foreclosure

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thus clearing these properties more quicklyfrombanks’books,whichmayhavesomeeffecton the ratio of REOs to the total number ofhousingunitsinacity.

AnothercontributingfactortothedropinREOconcentrationsistheriseinforcedordistressedsales. Interviews with local leaders point to agrowingpercentageofsalesoccurringbeforethepropertybecomesanREO,eithersellingatauc-tionorthroughtheshort-saleprocess.NevadaTitle Company, a local provider of market-level data in the LasVegasValley, has seen asignificantriseinthenumberofshortsalesintheregion,accountingfornearlyaquarterofallclosings inFebruary of 2010.10TheLPSdatashowasimilarincrease,withagreaterpercentof distressed properties in boomburb marketsselling before they enter the REO process,comparedtodistressedpropertiesinestablishedcorecities(seetable2).11WithintheLPSsam-ple,8percentofdistressedproperties(90-plusdaysdelinquentorinforeclosure)inboomburbareassoldbeforebecomingREO,comparedto3.9percentinestablishedcorecities.REOsalsoclearedthroughthepipelineabitmorequickly

inboomburbmarkets,atanaveragepaceof231days toREOsalecomparedwith254days inestablishedcoremarkets.

Challenges for Neighborhood StabilizationCity officials tasked with implementing theNSPprogramsay that the increasingnumberofpropertiessellingbeforetheybecomeREOhasmadeitevenmoredifficulttoacquirefore-closed properties. Until recently, the programlimitedacquisitiontopropertiesthathadgonecompletely through the foreclosure process,thereby disallowing grantees from purchas-ing properties through a short sale. In April2010, the U.S. Department of Housing andUrban Development issued changes to NSPrequirements, broadening the definitions of“foreclosed” and “abandoned” and allowingjurisdictionstoacquirepropertiesearlierintheforeclosureprocess.

While the rapid turnover of REO propertiesmay indicate the stabilization of the housingmarket in these suburban communities, it ishardatthispointtoassesswhethertheclearing

Figure 5 REO Sales Rates in U.S. CitiesBy Cluster Type

2010200920082007


REO sales (as a percent of REOs on the market)

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Established CoreSteady-GrowthBoomburb


oftheREOinventoryistrulytherightwaytoview “stabilization.” One troubling finding inthisanalysisisthatinboomburbmarkets,priceshave fallen much more dramatically than inestablishedcorecities.Borrowersinboomburbcitiessawpricedeclinesofmorethan25percentintheirZIPcodesinceorigination,comparedwith price declines of around 9 percent inestablished core cities.12The increasing num-berofhousessellingatfarbelowtheirpreviousassessed values has many housing counselorsworried,particularlyastheyseemoreandmorehomeownersquestioningwhetherornot theyshouldremainintheirhomes.

“Thepsychologydoesseemtobechanging,”saidone counselor.“Weused tohavehomeownerscominginbeggingustohelpthemkeeptheirhomes,butnowmaybeoneinfouroroneinfiveclientsisaskingusthebestwayofgettingout.”

Inaddition,thepredominanceofinvestorpur-chasesofdistressedpropertiesleadsmanylocalleaderstoquestionwhatkindofcommunitiestheywill be leftwith at the endof the crisis.WhiletheLPSdatadon’tallowananalysisofwhoisbuyingtheREOs,localinterviewscor-roboratethefactthathousesatthelowerendofthemarketaresellingmuchmorequicklythanhigher-pricedhomes.

“Investors—bothbigandsmall—arebuyingupthecheap inventory.So farwe’ve seennoevi-dencethattheyplantoputanymoneyintotheseproperties,”reportedacityofficialinMurrieta,

asuburbancommunitylocatedinsouthwesternRiverside County in Southern California. “Ifthey’rejustholdingthesehousesforlandvaluestogobackup,we’regoingtohaveahardtimerebuilding the schools, small businesses, andservicesthatgointoahealthycommunity.”

Others offer a less bleak assessment for thefuture of these communities. In Elk Grove,California, a community that typifies the“boom”and“bust”ofnewspaperheadlines,cityadministrators are seeing many homes beingpurchased by families and other first-timehomebuyers,drivenatleastinpartbythefed-eralhomebuyertaxcredit.

“Investorsseemlessinterestedinthesehomes,”reportedonecityofficial.“They’restillsellingabittoohightobuyinbulk,andinsteadtheylookattractivetonewhomebuyerswhocannowbuyathree-bedroomhouse—whichwasoutofreachjustafewyearsago—foraround$150,000.”

NSP administrators from boomburb citiesreport that the REOs they purchase in thesemarkets generally need less rehab investmentthan those in older neighborhoods, whichallowsthemtocommitmorefundingtoacqui-sition.This isdifferent fromtheexperienceofcities such as Los Angeles, where rehabbingpropertiesisgenerallysignificantlymorecostlythanadministratorstherehadanticipated.

“Buyerslikethenewerhomes,”saidahousingdeveloperinStockton.“Thepropertiesthatare

Table 2Movement of Properties through Foreclosure Process

Established Core Steady-Growth Boomburb

Mean Number of Days in Foreclosure 189 177 176

Mean Number of Days REO Remains on Market 254 245 231

Percent Short Sales 3.89 7.37 8.01

Percent Change in House Values Since Origination 8.63 23.43 26.48

Source: Author’s calculations of data from Lender Processing Services Applied Analytics, Inc.,the American Community Survey, and the U.S. Census


languishing are the older homes, in the olderneighborhoods.Noinvestorwantsthoseeither,and they require a lot of investment to turnaround, which makes it hard for a nonprofit.I’d be more worried about the lower-incomeneighborhoodsthanthenewones.”

ConclusionAt this point, it’s too early to know whichneighborhoods will experience the mostlong-lastingnegativespillovereffectsfromcon-centratedforeclosures,especiallygiventhelackofpubliclyavailabledata sources thatcompilecomparabledataonhousingunits,theirmort-gage status, and informationon thepurchaserand seller. However, the LPS data provide asmall window into this question, and so farshows that REO inventory in newer cities issellingandclearingfasterthanREOinventoryinoldercities.Concernsthatthesecommunitieswillbecome“shutteredsubdivisions”seemtobelargelyunfounded;PostalServicedataindicatethatlong-termvacancyratesinthesecitieshavenot dramatically increased. In addition, anec-dotal evidence suggests that new householdsaremoving in.While the lengthof the reces-sion and strength of the labor market will becritical—and uncertain—factors shaping thehousing market in these communities goingforward, unmet housing demand in westernstates will likely prevent wholesale abandon-mentofthesesuburbancities.

More troubling from the community devel-opment perspective is that this positive trendin boomburb cities is being driven both bythedeepdiscountingofhouse values in theseareasandahighvolumeofinvestorpurchases.Stabilizationthusremainselusive.

Althoughsomeboomburbcitieshavebeenabletoobligatea large shareof theirNSP1 funds,the number of REOs redeveloped to date asaffordablehousing(bothrentalandhomeown-ership)remainssmall.Andwhilehousepriceshavefallen,medianhousevaluesstillremainoutof reach formany low-andmoderate-incomehouseholds, especially in California. Otherboomburb cities, especially those with limitedlocal community-development infrastructure,

have struggled with implementing NSP1 andstandto lose theirnon-obligatedallocations.13In both cases, the promise of these cities toserveasbedroomcommunitieswithaffordablehomeownershipopportunitiesforanemergingmiddleclassisatrisk.

While it may seem naïve to have thoughtthat a small federal program like NSP couldinterveneinthelargerworldofprivatehousing-marketinvestment,itisworthconsideringtheimportanceofpublicfunding—local,state,andfederal—in helping to build community inthese places: Investing in local schools, tran-sit, and small businesses is critical if we hopeto ensure that property values stabilize andthat investors view the houses as more thanjunkbonds.AstherecentBrookingsreportTheState of Metropolitan America14 points out, thegrowth of these boomburbs was neither eco-nomicallynorenvironmentallysustainable.Thereportconcludesthatthelong-termviabilityofthese communities requires investing in theirworkforceandnewindustries,aswellasrecon-figuringtheirhousingandtransportationplansto provide options for both homeowners andrenterswithinacarbon-constrainedeconomy.

Carolina K. Reid, PhD, is manager of theresearch group in the Community DevelopmentDepartment at the Federal Reserve Bank of SanFrancisco, which she joined in 2005. Her recentresearch includes analyses of the impact of stateanti-predatory lending laws on mortgage marketoutcomes, the Community Reinvestment Act andthesubprimecrisis,loanmodificationoutcomes,andracialdisparitiesinhousingandmortgagemarkets.Dr. Reid earned her PhD in human geographyfromtheUniversityofWashington.

Endnotes1 Robert E. Lang and Jennifer B. LeFurgy, Boomburbs:

The Rise of America’s Accidental Cities(Washington,D.C.:Brookings Institution,2007).LangandLeFurgydefinea boomburb as a municipality of more than 100,000peoplethathasbeengrowingatadouble-digitpaceforthreeconsecutivedecadesandisnotthemajorcityofanymetropolitan area. A “baby boomburb” is a place withthe same characteristics but with a population between50,000and100,000.

2 Daniel Immergluck, “The Accumulation of Fore-closed Properties: Trajectories of Metropolitan REOInventories during the 2007–2008 Mortgage Crisis,”

REO inventory in newer cities is selling and clearing faster than REO inventory in older cities.


CommunityAffairsDiscussionPaperNo.02-08,FederalReserveBankofAtlanta(2008).

3 Chris Mayer and Karen Pence, “Subprime Mortgages:What,Where, and toWhom?” Federal Reserve BoardofGovernors,FinanceandEconomicsDiscussionSeriesWorkingPaperNo.2008–29(2008).

4 Paul S. Calem, Kevin Gillen, and Susan M. Wachter,“TheNeighborhoodDistributionofSubprimeMortgageLending,” Journal of Real Estate Finance and Economics 29(4): 393–410 (2002); Daniel Immergluck and MartiWiles,Two Steps Back: The Dual Mortgage Market, Preda-tory Lending, and the Undoing of Community Development(Chicago,Ill.:WoodstockInstitute,1999);andJonathanHershaff, Susan Wachter, and Karl Russo, “SubprimeLending: Neighborhood Patterns over Time,” paperpresented atPromises andPitfalls, theFederalReserveSystem’sFourthCommunityAffairsresearchconference,Washington,D.C.,April7–9,2005.

5 AnthonySanders,“TheSubprimeCrisisandItsRoleintheFinancialCrisis,”Journal of Housing Economics, 17(4):254–61(2008).

6 Daniel Immergluck, “The Accumulation of ForeclosedProperties:TrajectoriesofMetropolitanREOInventoriesduringthe2007–2008MortgageCrisis,”FederalReserveBank of Atlanta, Community Affairs Discussion PaperNo.02-08(2008);andDanielImmergluck,“Intrametro-politanPatternsofForeclosedHomes:ZIP-Code-LevelDistributionsofReal-Estate-Owned (REO)PropertiesduringtheU.S.MortgageCrisis,”FederalReserveBankofAtlanta,CommunityAffairsDiscussionPaperNo.01-09(2009).

7 Population data of Census-designated places in the2006–2008AmericanCommunitySurvey.

8 ClustersweredefinedusingPROCCLUSTERinSASfollowingWard’sminimum-variancemethodonthefol-lowingfourvariables:percentofhousingunitsbuiltafter2000,changeinpopulationbetween2000and2006–08,changeinhousevaluesbetween2000and2006–08,andchange in the percent of minority households between2000and2006–08.

9 The data collected by LPS do not represent a randomsample of the mortgage lending industry and signifi-cantly underrepresent subprime loans. In addition, theLPSdatahaveaddednewservicersoverthestudyperiod,whichmeansthatanincreaseinREOactivitymightnotrepresentan increase in thenumberofnewREOs,butratheradditionalnewloansenteringthesurveyasservicerparticipation expands. To account for the differencesin subprime-mortgage-market coverage between LPSandtheoverallmortgagemarket,Icreateweightsusingdata from the Mortgage Bankers Association NationalDelinquencySurvey.Inaddition,Irestricttheobserva-tions to loans that entered the dataset before January2007orthosethatenteredafterJanuary2007buthadlessthanfivemonthsofhistory(whichensuredthattheywerenewlyoriginatedloans,notloansthatmerelytransferredfrom one servicer to another). See Immergluck 2008,2009forasimilarapproach.

10Hubbell Smith, “Short sales skyrocketing: Trend mayprevent foreclosure wave,” Las Vegas Review-Journal, April25,2010.

11LPS does not officially record whether a property is ashortsale.Toestimateshortsales,Iassumethatproper-tiesthatareatleast90daysdelinquentorinforeclosureandare“paidoff ”beforeenteringREOareshortsales.A loan ispaidoffwhen it is soldor refinanced, so thismethodmayoverestimate.However,giventhedifficultyborrowersfacedinrefinancinghomesduringtheperiodofthisstudy,theerrorisprobablysmall.

12UsingZIPcode–leveldataonhousepricechangesfromZillow,IattachhousepricedatatoeachoftheloansintheLPSsampleforeverymonththeloanisinobserva-tion.TheseestimatesofhousepricedeclinesattheZIPcodelevelarelikelyanunderestimate,sinceZillow’sin-dexdoesnotincludethesalespricesofforeclosedhomes.

13In May of 2010, HUD announced plans to reallocatenon-obligated funds from NSP1 through a new roundoffunding.

14Seebrookings.edu/metro/stateofmetroamerica.aspx.


The problem of vacant and abandoned resi-dential properties is not a new one. In theearly 1970s, many U.S. cities were affected bysurgesinvacanciesfueledbyproperty-flippingschemesrelatedtoproblemswiththeFHA235loanprogram.1Beginninginthelatterdecadesof the twentieth century, industrial restruc-turing and the development of long-termpopulationlossinmanypartsoftheindustrialMidwestandNortheastalsocreatedproblemsof vacancy and abandonment. The nationalforeclosure crisis beginning in 2007, however,has resulted inunprecedented surges innum-bersofvacanthomesacrossmanymetropolitanareas—including regions that had not experi-encedlarge-scalevacancyproblemsbefore.

By2007-2008, theevidence thatvacant, fore-closedhomes—especiallywhengeographicallyconcentrated—hadnegativeimpactsonneigh-boring property values and social conditionswas considerable.2 In July 2008, the Housingand Economic Recovery Act (HERA) estab-lishedwhatwastobecometheNeighborhoodStabilization Program (now often referred toas NSP 1). HERA allocated more than $3.9billion inNSPfunds tobeawardedona for-mulabasisbytheU.S.DepartmentofHousingandUrbanDevelopment.ThepurposeofNSPwastoallowlocalgovernmentsandtheirpart-nerstopurchasevacant,foreclosedhomesandeitherrehabilitatethemforhousingor,toalim-ited extent, redevelop the properties for otheruses. HUD was given just 60 days to designandimplementtheallocationschemeandeli-gibleuserulesforNSP,andsoNSPfundswereallocatedbeginninginOctober2008.Byearly2009,mostNSP1recipientshadfullyapproved

plansforhowtheyweregoingtodeployfundsandhadthelegaldocumentsinplacetobeginacquiringproperties.NSP1providedlocalitieswithawindowofonly18months toobligateNSPfunds.

NSPwas,intheschemeoffederalprogramming,adopted and implemented very quickly—withlessthanninemonthsfromadoption(lateJuly2008) to money beginning to hit the streetsas early as the spring of 2009. However, thetumult in the nation’s financial and housingmarkets during this period was so great thatthenatureofthevacantpropertyproblemwaschangingquiterapidlyand,byspringof2009,wassignificantlydifferentthanthatof2007orthefirst half of 2008, at least as suggestedbytheevidencebelow.Thenarrow,targetedcraft-ing of NSP, while perhaps justified by otherreasons,wasnotwellsuitedtoaddressthefast-changingnatureofthevacantpropertyproblemposedbytheforeclosurecrisis,especiallyinthatit focused on one tactic—the acquisition ofpropertiesheldbylendersasreal-estate-owned(REO)property,orhomeswherethelenderhastakentitleafteraforeclosuresale.

This paper examines property transaction dataforFultonCounty,Georgia,toidentifychangesinthedurationofpropertiesheldinREOstatusbylendersaswellasthenatureoftheREOsales,including the levels of concentration of sellers(lenders)andbuyers,thenatureofbuyers,andtherelativevaluesofpropertiesbeingsold.ItbuildsonsomeoftheworkofCoulton,Schramm,andHirsh (2009) and Smith and Duda (2009) inClevelandandChicago,respectively.3

Holding or Folding? Foreclosed Property Durations and Sales during the Mortgage Crisis

by Dan Immergluck Georgia Institute of Technology


The findings here suggest that, during thetime that the NSP 1 program was being ini-tially implementedandrolledout in late2008andearly2009,thevacantpropertyprobleminAtlanta shifted from one of REO propertiestooneofprimarily investor-ownedproperties.Banksbegantosellofflower-valueREOrap-idlytoadiversesetofbuyers.Lenderscontinuedtoholdontohigher-valuepropertiesforsimilaramountsoftime,however.Aspropertiesmovedrapidly tononbankownership,NSPrecipientshadlessabilitytogaincontrolofthem.

Fulton County is the central county of theAtlanta metropolitan statistical area and thelargest county in Georgia. Its population isapproximatelyonemillion,anditincludesthebulkof the cityofAtlantawithin itsborders.ThecityofAtlantaaccountsformorethan40percentofthecounty’spopulation.Thecountyincludesanumberofquiteaffluentsuburbstothenorthaswellasmoderate-incomesuburbssurrounding the Atlanta Hartsfield–Jacksonairportandlarge,low-densityareastothesouth.

Data and MethodsDataonallrecordedresidentialpropertytrans-fersfromJanuary2005throughApril30,2009,were obtained from the Fulton County TaxAssessor’s Office. From these data, all trans-fersonone-to-four-unitresidentialproperties,condominiumsandtownhouseswereidentifiedand retained.Datawere cleaned forduplicate

records.The buyers and sellers of these prop-erties were then classified as either lenders(including financial institutions, Fannie Mae,FreddieMac,HUD,theVA,etc.)ornonlenders(individuals or corporate entities of variouskinds).4After identifying the buyer and sellerfor each transfer, sales were categorized as:1) nonlender-to-nonlender sales transactions;2) lender-to-nonlender transactions (whichwouldbeconsideredsalesofREOproperties,or REO sales); 3) nonlender-to-lender trans-fers(whicharepropertiesenteringREOstatus,usually through foreclosure sale or through adeed in lieuof foreclosure);and4) lender-to-lendertransfers,whichoccurforvariousreasonsandareusuallynon-cashconveyances.5For REO sales (category 2 above), buyerswere classified as “likely investors” via twoapproaches.6First,thebuyer’snamewasexam-ined for various corporate identifiers (e.g.,LLC,corp.,etc.).Then,buyerspurchasingmorethan two properties in the county in any onecalendaryearwereidentified.Ifabuyerfellintoeitherofthesetwogroups,itwasclassifiedasa“likelyinvestor.”Giventhatsomeinvestorsmaynothavepurchasedmore than twopropertiesinanyoneyearand/orhaveacorporatename,this method almost certainly under-countsinvestor-buyersversusowner-occupiers.But itisexpectedthatanysuchundercountwouldberelatively consistent over time and space anda good indicator of differences and changes

Anecdotal reports suggest that many

if not most REO properties are

bought by investors, and

that this share has grown during

the crisis.

Table 1Sales on Properties that Entered REO Status at Least Once from January 2005 to April 2009

2005 2006 2007 2008 Jan–April 2009

Total

Number entering REOPercent change from prior year

3,206 4,79549.6%

7,15949.3%

7,6727.2%

1,815 24,647

Number of REO salesPercent change from prior year

2,886 3,71928.9%

4,44419.5%

7,75174.4%

2,674 21,474

Nonlender-to-nonlender sales 11,582 9,748 5,594 4,111 1,052 32,087

Total 17,674 18,262 17,197 19,534 5,541 78,208

Source: Fulton County Tax Assesor


in investor buying. REO sellers (lenders) andbuyers were also ranked by REO purchasesin each year to examine the concentration ofsellersandbuyers.7

TheworkingdatasetforthispaperincludedalltransfersonpropertiesthatenteredREOstatusatleastoncefromJanuary2005throughApril2009,excludinginter-lendertransfers.Thedateof REO entry was identified for each REOsale. Thus, the duration of the REO periodwasdeterminedforeachREOsale.8ThepriceofeachREOsalewasalso identified.Table1shows that, of the more than 78,000 sales inthedataset,REOsalesaccountedformorethan21,000.Thesearethesalesthatareof interestinthisstudy.

Table 1 also shows that the number of timesproperties entered REO increased rapidly in2006 and 2007, but that the rate of growthdroppedtoonly7percentfrom2007to2008.9

The drop-off in 2008 was, most likely, partlythe result of foreclosuremoratoria introducedbymanyservicersinthefallof2008.

The number of REO sales in Fulton Countyincreasedsignificantlyaswelloverthe2005to2007period,butatanappreciablyslowerpacethan that of properties entering REO. Thisroughlymatchesnationaltrendsinwhichlend-ers’REOinventorieswererisingtohighlevelsthroughmuchof2007andwellinto2008.10In2008,therateofREOsalesinFultonCountypickedupquitedramatically,withan increaseof almost 75 percent, and lenders began sell-ingmanypropertiesthattheyhadbeenholdingontoandsellingevennewerREOmorequickly.Thiswillbedemonstratedinmoredetailbelow.

The Nature and Concentration of REO Sellers and BuyersFigure1providesinformationonthenatureofthe sellersof theREOproperties, that is, thelendersormortgagees.WhileREOpropertiesareoftensoldbyloanservicers,themortgageeis typically a trustee of a mortgage pool forwhich the servicer is acting as an agent. Forgovernment-sponsored enterprise (GSE) andFHA loans, following the typical foreclosureand initial transfer from the servicer to theGSEorHUD, the transfereeowns theREOandistheseller.Figure1indicatesthevolume

Figure 1 Market Concentration and GSE Share Among REO Sellers

Source: Fulton County Tax Assessor

Percent of REO sales

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ofREOsalesagainsttwomeasuresdescribingthecompositionofREOsellers.First,itgivesaconcentrationratio—theshareofREOprop-erties sold by the largest five sellers of REOproperties for eachcalendaryear. It alsogivestheproportionofREOpropertiessoldbytheGSEs,FannieMae,andFreddieMac.

The top-five-seller concentration ratio in-creased somewhat, but not dramatically, overthe period, ranging from just over 40 percentof sales to just over 50 percent. The increasein this share beginning in 2008 is due to thegreater presence of the GSEs among the topsellers.GSEsharehaddropped from2005 to2007astheinitialsubprimecrisisgrew,becausenon-GSE subprime loans dominated REOs.Most of these loans were held in securitizedtrusts.ThismeantthattheGSEshareofREOsalesdroppedtolessthan10percentin2007.ButwiththeforeclosureproblemspreadingtoAlt-A and prime-market segments, the GSEshare of REO sales grew in 2008 and early2009, exceeding 20 percent by early 2009.Figure 1 also indicates the volume of REOsalesinthecountybythelargestsellerineachyear.Aswillbe shownbelow, theREOseller

market is much more concentrated than theREObuyermarket.

Figure2providesinformationonREObuyerssimilar to the informationon sellersprovidedin figure 1. However, it shows the percent ofallREOpropertiesboughtbythetop10andtop 20 buyers in each year. It also indicatesthe number of properties purchased by thelargest buyer in each year. Similar to patternsfoundinCuyahogaCounty,Ohio,11thebuyermarket is highly atomistic, or disparate, withnumeroussmallbuyersandrelativelyfewlargebuyers.Mostpropertiesarepurchasedbyenti-ties—usuallyindividuals—purchasingoneorafewpropertiesinthecountyoverthecourseofa year.The top10buyers comprised less than12percentofpurchaseseveryyear,asharethatfelltolessthan5percentin2008asREOsalessurged. Even among the top 20 buyers, theirshare of all sales never exceeds 15 percent ofpurchases.Mostoftheselargerbuyersarecor-porate entities, usually structured as limitedliability corporations (LLCs). Eighty to 95percentofthetop20buyersineachyearwereidentifiableascorporatebuyers.

Figure 2 Market Concentration of REO Buyers


Percent of REO purchases

2008200720062005

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OnequestionthatarisesistheextenttowhichREOs have been bought by owner-occupantsversusinvestors.Anecdotalreportssuggestthatmany,ifnotmost,REOpropertiesareboughtbyinvestors,andthatthissharehasgrowndur-ingthecrisis.12InAtlanta,therehaslongbeena very active investor market for single-familyhomes,andalargeshareofrentalhousinginthecityoccursviadetachedsingle-familyproperties.Figure 3 breaks out the REO sales between“likely investors” and other buyers. The rawdata obtained from the Fulton County taxassessordonotprovide a reliable indicatorofowner occupancy. Therefore, investor versusowner-occupantstatusmustbeestimated.Theapproach used here is a conservative one andalmost certainly underestimates the share ofinvestor purchases. First, all corporate buyersare assumed to be investors. REO propertiesareidentifiedashavingcorporatebuyersifthebuyers’names include“LLC,”“corp.,”“group,”and similar terms. Figure 3 shows that theshare of purchases by corporate entities heldquite steady at about 25 percent each year. Asecondcategoryof likely investor-buyerswerethosewhoboughtthreeormorepropertiesin

any calendar year.This share declined signifi-cantly,frommorethan36percentin2005and2006to31percentinthefirstfourmonthsof2009.The top curve in figure 3 measures theshare of properties that fall into either of thefirsttwogroups,whicharenotmutuallyexclu-sive.Manycorporatebuyerspurchasedthreeormorepropertiesinayearandsofallintobothofthecategories.

Theapproachusedhere is a conservativeone.Somesmallinvestorsmayneverpurchasemorethan one or two properties in any year, forexample, and so would not be classified hereaslikelyinvestorsunlesstheyusedacorporatename in their transactions. Nonetheless, thedegree to which this measure underestimatesinvestoractivity isnotexpectedtovaryacrosstimeorgeography,makingthisausefulindica-tor.Becausethepercentofpurchasesbybuyerswhoboughtthreeormorepropertiesdeclined,the overall likely investor share declined,althoughnotdrastically,overtime.Itcouldbethatthisdownwardtrendis,infact,duetoarisein thenumberof investorspurchasingoneortwopropertiesperyear.

Figure 3 Percent of REOs Purchased by Likely Investors


Percent

2008200720062005

50

40

30

20

10


43.6% 44.3%

41% 40.1% 39.4%

25% 24.8% 25.2%25.5%24.6%

31.2%32.9%

33.8%

36.8% 36.3%

Percent of purchases by buyers who bought three or more properties in any calendar year (A)

Estimated percent of purchases by corporate buyers (B)

Estimated minimum percent of purchases by likely investor-buyers (A or B)


Figure3showsthat,overall,theshareofREOsalesthatwenttolikelyinvestorsdidnotchangeverymuchoverthestudyperiod.However,thissharevariesagreatdealacrossdifferenthous-ing-valueranges,andthatwithinsomerangesthissharechangedquitesubstantiallyovertime.

REO Sale Prices and Investor Shares by Price RangeThesinglemostdramaticchangeintheREOsales market during the mortgage crisis wasthe rapid increase in REO properties sellingatverylowprices.SimilartofindingsfromtheClevelandarea,figure4showsthattheshareofREOpropertiesinFultonCountythatsoldforunder $30,000 shot up from negligible levelsin 2005 through 2007 to more than 30 per-cent in 2008 and 45 percent in the first fourmonthsof2009.Thisisconsistentwithreportsoflow-valuepropertieslanguishinginREOforextended periods during the early part of theforeclosurecrisisinAtlanta,followedbylendersbeginningtodumpproperties—thepracticeofrapidlysellingthesemostly low-valueproper-ties—astheforeclosurecrisisspreadnationallyandthenationalandglobalfinancialcrisestookholdinthefallof2008.

Figure5providesadditionaldataonREOsalesbyshowingtheirrawmagnitudesbyyearacrossvarious value levels, but then also breaks outthosepropertiesthatwerepurchasedby“likelyinvestors,” as defined in the previous section.Two things are important to note here. First,asmightbeexpected,low-andmoderate-valueREO properties were sold to likely investorsat much higher rates than were middle- andhigh-value REO over the study period. Forexample, likely investors never accounted formorethan23percentofhigh-value(morethan$250,000)REOsales,andthissharedeclinedin2008and2009.Similarly, formiddle-value($100,000–249,999) properties, the share oflikelyinvestorsneveraccountedformorethan32percentofsales,anddeclinedtolessthan10percentin2008and2009.

Second, the surge in low-value REO saleswas driven by sales to likely investors, whoaccounted for 68 percent of low-value REOsalesin2008.Priorto2008,mostREOsalestolikely investorswereinthe$30–99,999range,but theunder-$30,000categorygrewin2008and 2009. Two phenomena likely underliethese shifts.First, investorsmovedaway from

Figure 4 Shares of REO Sales by Price Range

100

80

60

40

20

0

* January–April 2009Source: Fulton County Tax Assessor

Percent of REO sales

200720062005 2009*

1% 1% 4%

45%

2008

30%

$250,000+$100,000 – 249,999$30,000 – 99,999<$30,000


moderate- and higher-value properties andtowardlow-valueones.Whileanexplanationisbeyondthescopeofthisresearch,itmaybethatthe ease of acquiring such low-value proper-tiesviacashtransactionsandthemuchtightermortgagemarket for investor-ownedpropertyplayedarole.Moreover,propertyinvestors’rela-tivedifficultyinpurchasingmultiplepropertiesathigherpricesgiventhemorerestrainedlend-ing environment likely played a role in thesetrends.13The second phenomenon underlyingthese shifts is the significantdrop in valueofmanymoderate-valueproperties,movingthemintothelow-valuecategoryandincreasingtheREOactivityinthatpricerange.

REO DurationOnesignificantfeatureofalocalREOmarketthatdirectlyaffects redevelopmentefforts likeNSP is the length of time properties remainin REO. There was some concern aroundthe time of HERA’s adoption that proper-tieswould languish inbankownership,whichsomefelttheprivatemarkethadlittleinterestinpurchasing.Moreover,therewereindicationsthatsomelenderswerereluctanttosellproper-ties atdepressedprices andmightholdon tomanyREOpropertiesinthehopethatvalueswouldrecovertopre-crisislevelsorsomewhereclosetothem.Ontheotherhand,givensome

Figure 5 REO Sales by Value and by Likely Investor Status (Percentages are the shares of REO buyers who are likely investors)

Number of REO sales (thousands)

Sale year

20092008200720062005

<$30

$30 – 99

$100 – 249

Price level (thousands of dollars)3

2

1

0

3

2

1

0

3

2

1

0

3

2

1

0

Likely Investor

NoYes

Likely investor


$250+

52%

59%

6%

62%

68%

60%50%

29%

42%

62%

56%

10%

32%

20%

5%

32%

13%23% 21%11%


ofthechallengesandrequirementsinvolvedinimplementing the NSP program at the locallevel, longer REO times might provide moreopportunitiesforlocalgovernmentstoacquireproperties.Ifpropertiesaresoldquicklyandatverylowprices,competitionfrominvestorsandotherbuyersislikelytobemoreintense.

Figure6 shows thepercentofREOs,byyearofentryandprice level, thatweresoldbytheendofthestudyperiod.Aswouldbeexpected,forpropertiesentering in2005through2007,thesesharestendtobequitehigh,althoughasignificantshareofhigh-valuepropertiesenter-ingREOduringtheseyearsremainedinREOat the end of the study period. For example,almost14percentofpropertieswithestimatedvaluesofat least$250,000 thatenteredREOin2005werestillinREOuptofouryearslater.On the other hand, essentially all propertiesentering REO in 2005 and 2006 with valuesunder$100,000weresoldbyMay1,2009.

Figure6 also shows that low-valuepropertieshavesoldmorequicklythanhigher-valueprop-erties inrecentyears (2008,2009).ForREOspricedbelow$30,000(either thesalepriceortheforeclosuresalepriceifstillinREO),almost95percentoftheREOsenteringin2008weresoldbyMay1,2009.(Lateranalysiswillshow,however,thatintheearlieryearsofthisstudy,mostlow-valuepropertiesdidlanguishinREOforlongperiodsoftime.)

Figure7examinesthemedianREOdurationsfor just thoseREOsaleswhere theestimatedvaluewasbelow$30,000.Thisanalysisincludesproperties inREOatMay1,2009 (these arecalled “censored observations” since we don’tknowtheendoftheREOperiod),butinthispricerange, therearerelatively fewofthose.14This fact mitigates the censoring bias whenlookingatmediandurations in this low-valuerangeofREOsales.

Figure 6 Percent of All REOs Sold by May 1, 2009 By Year of REO Entry and Value

$250>

<$30

$30– 99

$100 – 249

Estimated value (in thousands)*

Percent of REOs sold by May 1, 2009

100806040200

56.6

7.8

7.4

94.9

55.4

*Price of REO sale or, if remaining in REO at May 1, 2009, foreclosure sale price.Source: Fulton County Tax Assessor

20092008200720062005

Year entered REO

57.6

78.619.3


Alsoshowninfigure7arethevolumesoflow-value (less than $30,000) REO entrants. In2005 and 2006, there were very few of these.This is both because there were fewer REOentrants at any value level and because saleprices for REOs were higher for the earlieryears.Low-valueREOentrantssurgedin2007withthesubprimecrisisandcontinuedin2008.However, thedurationof low-valuepropertiesplummetedover timeas lendersbegan sellinglow-valueREOmorerapidly in2008.Infact,themedian time inREO for thesepropertiesdroppedbymorethanhalffromthoseenteringin2007tothoseenteringin2008.

One method for examining durations untileventsofinterestissurvivalanalysis.BecauseitmaybeconceptuallyeasiertoviewREOdura-tionbyexaminingthepercentofREOssellingwithinvariousdurationsratherthanexaminingthepercentnotselling(whichwouldbeequiva-lent to survival), “one-minus-survival” curvesareplottedforREOentrance-to-saledurationsacross different entrance years for four valuecategories.These curves allowone to compare

the REO durations across different years ofentry. We can also examine whether REOsat different price points behaved differentlyover time. Moreover, Kaplan–Meier survivalanalysisallowsustoincludecensoredobserva-tions(propertiesremaininginREOasofMay1,2009),thusincreasingthereliabilityofesti-mateddurations forREOsbeginning in2008and2009.

Figure 8 is the set of one-minus-survivalcurves for REOs with values under $30,000.It shows largedifferences in the speed to saleof low-value properties over the study period.Thecurvesmoveclearlytotheleftastheyearof entrance progresses. Thus, low-value prop-erties entering REO in 2008 or 2009 tookfarlesstimetosellthanthoseenteringin2005or2006.

Figures9,10,and11providetheKaplan–Meierresults for homes in other value ranges.Theyshow far smaller differences in REO dura-tions across the year of entry. Moreover, theysuggest two other important patterns. First,

Figure 7Median Time on Market for Low-Value Properties Entering REO<$30,000

Number of properties entering REO

Year entering REO status

2008200720062005

Median time in REO (number of days)1800

1600

1400

1200

1000

800

600

400

200

0

1000

900

800

700

600

500

400

300

200

100

0

377

658

925

57301

1345

1698

175

0% unsold on 5/1/09

0.3% unsold on 5/1/09

0.7% unsold on 5/1/09

5.1% unsold on 5/1/09


REO startsMedian time in REO


for high-value properties ($250,000 or above;figure11), thecurves tendto reachtheir lim-itsatlessthan90percent,consistentwiththefindings in Figure 6. Thus, some modest butnontrivialportionofhigh-valueREOproper-tiesfailstosellforverylongperiodsoftime.

Second, this phenomenon appears to havebegun affecting REOs in the moderate pricerange ($100,000–249,999) in 2008 and 2009.Thus,lendersmaybeincreasinglylikelytoholdonto higher-value and, more recently, evenmoderate-value REOs for longer periods of

Figure 9 Time to REO Sale by Year of REO Entry$30,000–99,999


Cumulative percent of REOs sold

Days from REO entry

1200

100

80

20

40

0

60

14002000 600 1000800400

Year of REO entry20052006200720082009

Figure 8 Time to REO Sale by Year of REO Entry<$30,000



1200

100

80

20

40

0

60

14002000 600 1000800400

Days from REO entry

Year of REO entry20052006200720082009


time. This may reflect lenders’ willingness tobetthatthepricesofhigher-valuehomesmayrecover. Mortgagees may conclude that thepossibilityof suchprice recovery isworth thecarryingcosts entailed inholding theproper-ties for longer periods. Carrying costs mayalsobehigherforlow-valuepropertiesthatarelocatedinplaceswheretheyaremorelikelytobe subject to vandalism and/or the strippingoffixtures,copper,orothermaterials.Becausethe NSP program prescribed most funds tobeused foracquiring foreclosedproperties, inplaceswhereREOsweredumpedbylenderstoinvestors,NSPrecipientswere leftwith fewerpropertiesthattheycouldacquireinneighbor-hoodsheavilyimpactedbyvacancies.

Summarizing the Key Empirical FindingsThis analysis shows that some aspects of theREOmarketshiftedquitesignificantlyduringthe U.S. mortgage crisis, at least in the cen-tral county of the Atlanta metropolitan area.Somepatternswerequiteconsistentovertime,including the fact that the seller side of themarket was much more heavily concentratedthanthebuyerside.Anotherconsistentpattern

over time was the atomistic, or separate andhighlydisparate,natureofthebuyers,withthelargestbuyerscomprisingonlyaverysmallpor-tionofthemarket.Theoverallshareofbuyerswhowere likely investorsalsodidnotchangeverymuchfrom2005to2009,althoughtherewas some decline in the share of propertiesbought by investors purchasing at least threepropertiesinacalendaryear.Andfinally,whilethelevelschangedovertime,theshareofbuy-erswhowere likely investorswas consistentlyhigheratlowerproperty-valuelevels.Thestrikingchanges in thedurationsof low-value REOs support anecdotal reports oflenders beginning to sell such REOs rapidlyand in higher quantities in the latter part of2008and into2009.Thevolumeof low-valueproperties entering REO in Fulton Countyrosedrasticallyin2007and2008;likewise,thesales of these properties rose rapidly in 2008andearly2009.Thespeedatwhich low-valueREOs increased so much that 95 percent ofthose entering in 2008 were sold by May 1,2009.Similarly,morethanhalfofREOsenter-ing between January and May of 2009 weresoldbyMay1.

Days from REO entry

Figure 10 Time to REO Sale by Year of REO Entry$100,000–249,999



1200

100

80

20

40

0

60

14002000 600 1000800400

Year of REO entry20052006200720082009


Interestingly,lendersdidnotrespondthiswayforthehigher-valueREOstheyheld.Durationsfor moderate-value REOs ($30,000–99,999)were much more consistent overall, and themodest changes fluctuated back and forthduring the study period. In the case of high-valueproperties(morethan$250,000),lenderstend tohold onto a small butnontrivial por-tion—morethan10percent—ofpropertiesfora very long time.This behavior was generallyconsistent over the study period. For middle-valueproperties($100,000–249,999),theREOdurations also changed over time, but in theoppositedirection,aswasthecaseforlow-valueproperties. Durations increased in later years,sothatonlyabout65percentofREOsstartedin 2008 were expected to be sold within 500days,comparedtoapproximately90percentforREOsstartedin2005inthisvaluerange.

While the more rapid selling of low-valueREOsmayatfirstseemtosignalasuccessfulabsorption of such properties into productivereuse,theon-the-groundimpactsofsuchactiv-ity are less than entirely clear. For example,researchersfoundthatmanylow-valueproper-tiesintheClevelandareawentfromREOsaleto another transaction in fairly short order.15

Thisflippingofpropertiessuggestsspeculativebuyers that may have little intention of reha-bilitatingproperties that tendtobephysicallydistressedandinneedofrehabilitationorevendemolition.Moreworkisneededtodeterminewhether similarflippingbehavior isoccurringinFultonCounty.

Implications for Neighborhood Stabilization Policy and PracticeThe findings above have implications bothfor the near-term implementation of neigh-borhood stabilization efforts and for futurepolicy design. First, the rapid turnover oflower-value REO properties—often to inves-tor–owners—raises several concerns. Whileresponsible investor activity in the market isnecessary to reutilize REO properties andcan provide increased supplies of affordable,decent-quality rental housing, such an out-come may not be the predominant one in allcommunities.Someinvestorpropertiesremainunoccupied and boarded up or dilapidated,perhaps driven by investors’ betting on near-termincreasesinvaluesandhopingtomerelyresell theproperty infairlyshortorder.Otherinvestorsmayseektorentoutpropertieswith-outrehabilitatinghomesthatarelikelyinvery

Days from REO entry

Figure 11 Time to REO Sale by Year of REO Entry$250,000+



1200

100

80

20

40

0

60

14002000 600 1000800400

Year of REO entry20052006200720082009


poorcondition; thesepropertiesmaycontinueto have significant negative spillover impactsonneighborhoods.

Given the dominance of what appear to be“mom and pop” investors who purchase nomorethanahandfulofpropertieseachyear,andgiventhevery lowvaluesofmanyREOsales,thecapacityand inclinationof these investor-ownerstorehabilitateandmaintainpropertiesadequatelyareofsomeconcern.Manyoftheselow-valuetransactionsare likelytobeall-cashpurchases. In addition, credit availability forrepairsandimprovementsislikelytocontinuetobescarce.

Suchascenariosuggeststhelikelihoodoftwoother problems either growing more acute or,in some places, emerging. First, housing codeenforcementresourcesmaybeseverelystressedbygrowingnumbersofdeterioratingproperties.Second,small,cash-strappedinvestorsmayalsohave difficulty paying property taxes, suggest-ingthepotentialforincreasedtaxdelinquencyproblems. Many local governments will needstronger and more effective policy tools andprogramstoenforcepropertytaxcollectionandtoreclaimtax-delinquentpropertiesforrevital-ization. State lawmakers should provide localgovernments with the fundamental tax fore-closure and reactivationpowers todesign andimplementsuchprograms.

In termsofpolicy andprogramdesign in theneighborhood stabilization arena, our find-ingsheresuggestthathighlyrestrictedfundingschemes, such as the federal NSP programs,maybefartooinflexibletoprovideforeffectivelocal responses topropertyvacancyandaban-donment.BythetimeNSP1programfundingwas made available to localities, the vacantREOproblem—at least inmany low-income,impacted neighborhoods—may have becomethe more serious problem of many vacant,investor-ownedhomesanddilapidated,shoddyrentalhousing.

WithcontinuedwavesofforeclosuresandnewREO properties mounting, community devel-opment groups must have flexible pools of

funds to respondopportunistically and strate-gicallybybuyingpropertieseitherfrombanksdirectlyorpossiblyfrominvestorsorhomeown-ers (viashortsales, forexample).Usingpublicfunds to purchase homes from investors maybe cause for some concernoverwhether sucheffortswouldprovideformiddle-menspecula-torstoextractsubsidyfromtheprocess.Thisisalegitimateconcernandanysuchbuyingmustbedonecarefully.However,inpractice,allowingformodestgainstoinvestorsmaybetheneces-sarycostofachievingscaleinpropertyrecoveryandredevelopment.

Dan Immergluck is an associate professor inthe School of City and Regional Planning at theGeorgia Institute ofTechnology, where he teachescourses in real estate,housingpolicy, and researchmethods. He has authored more than two dozenarticles in scholarly journals, numerous appliedresearch and policy reports, and three books.His most recent book, Foreclosed: High-RiskLending, Deregulation and the Underminingof the American Mortgage Market, was pub-lishedinJune2009.

Endnotes1 See Calvin Bradford, “Financing Homeownership: The

Federal Role in Neighborhood Decline,” Urban AffairsReview14:313–335 (1979);andRachelBratt,“Home-ownershipRisk andResponsibilitybefore and after theU.S. Mortgage Crisis,” in Richard Ronald and MarjaElsinga, eds., Beyond Home Ownership (London:Routledge,forthcoming).

2 See Dan Immergluck and Geoff Smith, “The ExternalCostsofForeclosure:TheImpactofSingle-FamilyMort-gage Foreclosures on Property Values,” Housing PolicyDebate,17(1):57–80(2006);DanImmergluckandGeoffSmith,“TheImpactofSingle-familyMortgageForeclo-suresonCrime,”HousingStudies21(6):851–866(2006);andJennySchuetz,VickiBeen,andIngridGouldEllen,“NeighborhoodEffectsofConcentratedMortgageFore-closures,” Journal of Housing Economics 17(4): 306–319(2008).

3 SeeClaudiaCoulton,MichaelSchramm,andAprilHirsh,“BeyondREO:PropertyTransfersatExtremelyDistressedPrices in Cuyahoga County, 2005–2008,” Center onUrbanPovertyandCommunityDevelopment(Cleveland,Oh.:CaseWesternUniversity,2008)athttp://blog.case.edu/msass/2008/12/09/20081209_beyond_reo_final.pdf;andGeoffSmithandSarahDuda,RoadblocktoRecovery:Examining theDisparate Impact ofVacant,Lender-ownedPropertiesinChicago(Chicago,Ill.:WoodstockInstitute,2009), at http://www.woodstockinst.org/publications/download/roadblock-to-recovery%3a-examining-the-disparate-impact-of-vacant-lender%11owned-proper-ties-in-chicago/.

The single most dramatic change in the REO sales market during the mortgage crisis was the rapid increase in REO properties selling at very low prices.


4 Thisprocess involvedanautomated searchof the sellerandbuyerfields forvariouswordsorabbreviations thatdenote a financial institution or mortgagee.The searchstrings were developed after careful examination of thedata.Afterthisclassification,randomsamplesofthedatawerecheckedfortheaccuracyoftheclassificationandtheclassificationwasiteratedtoaccountforfinancialinstitu-tionnamesnotcapturedbytheoriginalattempt.

5 Inter-lender transfers are common in Fannie Mae andFreddie Mac foreclosures, where the servicer typicallytakes recorded title to properties when foreclosure iscomplete, then quickly conveys title to Fannie Mae orFreddieMac.Typically, thisalsooccurs forFHAloans,whereconveyanceistoHUD.

6 The term “investors” here means buyers who are likelypurchasing the property for investment-income pur-poses—either to rent out or for expected capital gains,or both. Investors can be corporate entities (includingLLCs,corporations,etc.),individuals,orcouples.

7 Thisrequiredidentifyingsellerandbuyernamesthatwereprobablydifferentvariationsof thesameentity.Forex-ample,BankofNewYork,NA,wasconsideredequivalenttoBankofNewYork.Thiswasdoneonlyforsellernamesandcorporatebuyers;individualnameswereassumedtobeunique.Whilethiscertainlywasnotalwaysthecaseinreality,itisverydifficulttoidentifyvariationsinindi-vidualbuyers’namesconsistently.Moreimportantly,cor-poratebuyersdominatedtheranksofthetop20buyersinallyears(accountingfor16–19ofthetop20),sothisassumptionshouldnotbematerialincalculatingconcen-tration.

8 SalesforpropertiesalreadyinREOstatusasofJanuary1,2005,arenotincludedinanyanalyseshere.Also,inter-lendertransfersareignoredincalculatingREOdurations,which are measured as the number of days from theforeclosure sale (nonlender-to-lender) to the REO sale(lender-to-nonlender).

9 Properties flowed into REO status more quickly inAtlantathaninsomeothermarketsfortworeasons.First,mortgage defaults and foreclosures began growing ear-lierinAtlantathaninFlorida,California,ormanyother“bubble market” regions because property value growthhadmitigatedforeclosuresinthoseplacesuntillate2006.Second,thequickforeclosureprocessinGeorgiameansthatpropertiescanflowintoforeclosureveryrapidlyoncetheprocessbegins,ofteninlessthantwomonths.Inmostplaces,theperiodfromforeclosurenoticetosaleismuchlonger.

10DanImmergluck,TheAccumulationofForeclosedProper-ties: Trajectories of Metropolitan REO Inventories duringthe2007–2008MortgageCrisis.FederalReserveBankofAtlanta,CommunityAffairsDiscussionPaper,No.02-08(2008).

11Coulton,Schramm,andHirsh,citedabove.12Coulton,Schramm,andHirsh,citedabove.13Moreover, homebuyer tax credits and low interest rates

mayhavehelped increase theowner-occupiedsharesofpurchasesinthesepriceranges.

14Incaseswhereproperties remained inREOat theendofthestudyperiod,thevalueofthepropertyisestimatedbytheprevioustransactionvalue,whichistheforeclosuresaleprice.Theonlyalternativeistousetax-appraisedval-ues; however, given rapiddepreciation, especially at thelower value ranges, tax values would be expected to bemuch higher than actual market values and so are notconsideredreliable.

15Coulton,Schramm,andHirsh,citedabove.


REO and Beyond: The Aftermath of the Foreclosure Crisis in Cuyahoga County, Ohio

by Claudia Coulton, Michael Schramm, and April HirshCase Western Reserve University

TheforeclosurecrisiswasapparentearlierintheClevelandareathaninmanyotherpartsofthecountry.Signsbeganappearinginthelate1990sasforeclosurefilingsrosesteeply,morethanquad-rupling between 1995 and 2007 and peakingabove14,000in2007,higherthananycountyinOhio.1Since2006alone,one infivehomeshasbeenforeclosedoninthehardest-hitareas,includingneighborhoodsonthenortheastandsoutheastsidesoftheCityofClevelandandinEastCleveland,amunicipalityborderingit.Thegrowthofsubprimelendingplayedamajorrolein thecrisis:Studiesby local researchers showthat subprime home-purchase loans had an816percenthigherchanceofgoingintoforeclosurethanotherloans.2Subprimelendingandfore-closuredidnotfallevenlyoneveryone.Infact,African-Americansheldsubprimeloanstwotofour times more often than their white coun-terpartsofsimilarincome,leadingtohighratesof foreclosure and a disproportionate impacton neighborhoods with high proportions ofAfrican-Americanresidents.3

ThisarticlefocusesonpropertiesinCuyahogaCounty,Ohio,hometotheCityofCleveland,and uses administrative data from countyagencies to examine property transfers andproperty value after foreclosure. Thoughour focus is on Cuyahoga County munici-palities and Cleveland neighborhoods, someforeclosure-related processes and phenomenaarealsoapplicabletothegreaterNortheastOhioregionandotherweak-marketcitiesacrosstheUnitedStates.Inaddition,weprovideexamplesof the ways that communities have partneredwith local researchers, usingdata to strategizeandfocuseffortsonREOpropertyremediation.

Examining the growth and waning of REOproperty inventories can help communitiesunderstandtheforcesbehindthemovementofREOpropertiesfromsheriff ’ssaleoutofREO;itcanalsohelpcommunitiesstrategizerelation-shipswiththemostsignificantREOowners.

In our examination of REO properties andin partnership with community developmentorganizations,weusedatainthreeways:

• To test and create proxies where data are scarce or unavailable.Dataaboutthecurrentcondition of a property are unavailable andwould be labor-intensive to create, but U.S.Postal Service vacancy data and tax delin-quency data from the CountyTreasurer canserveas indicatorsof the levelofproductiveownershipofapropertyafterforeclosure.

• To present a picture of the current landscape of foreclosure and REO properties. Thispic-turehelpscommunityorganizationsstrategizerehabilitation efforts and scarce resourcesaroundexistingneighborhoodassets.Timelydataonthestatusofpropertieshelpcommu-nitiesresolvehousingissuesearlyon.

• To encourage data-driven decision making. Together,thesedataallowustoexaminetheforeclosure and market processes involvedwithREOpropertiesandto informpoliciesaroundforeclosuresandotherpropertyissues.

The Growth of REO PropertiesIfa foreclosuredoesnotget resolvedbyothermeans,mostproperties eventually endupat aforeclosuresale(calleda“sheriff ’ssale”inOhio).Prior to the current crisis, foreclosed proper-tiesinCuyahogaCountyoftenwenttoprivate


buyers (individual homeowners and investors)at foreclosure sales. In 2000, private buyersmadeup35percentofthemarketatthesesales.Since 2007, almost all properties coming outofforeclosuresalesenterreal-estate-owned,orREO,status.REOsarethuspropertiesownedbybanksandlendersasaresultofforeclosuresthatendedinunsuccessfulattemptstosellthem.

REO properties can be problematic becausethey are often vacant and susceptible to van-dalism and devaluation. It can be difficult forneighbors and others to determine who isresponsible for care and maintenance of theproperty, since REO owners frequently hireservicers to care for properties. Additionally,municipalitieshaveahardtimediscerningwhoshouldbeheldaccountablewhenthepropertyisinviolationofhousingcodes.

Cuyahoga County’s inventory of REO prop-erties has grown rapidly (see figure 1). From2004 to 2008,REOs increased from1,449 to

10,133,ajumpofnearly600percent.Figure1showsthatthisaccumulationoccurredinitiallybecauseoftherapidgrowthinpropertiesenter-ingREOandtheconcomitant slowingof therateatwhichpropertiesweresoldoutofREO.Infact,themediantimethatforeclosedproper-tiesspentinREOdoubledfrom2000to2007.4Sinceitspeakin2008,thecounty’sREOinven-toryhasdeclinedgradually,probablybecauseofaslowingofthenumbercominginfromfore-closuresalesandanincreaseinthenumberofproperties leaving REO. Possible reasons forthesechangesintheflowofpropertiesintoandoutofREOarediscussedlaterinthisarticle.

Figure1alsoshowsthemixofREOinventoryholders.Nationallendersaccountforthelargestproportion of REO inventory throughout thestudyperiod;theirinventoriesrosemoresharplyin2006and2007anddroppedmorequicklyin2008and2009thanGSEs’orlocalbanks’invento-ries.Nationallenders,locallenders,andGSEsallexperiencedasharpdeclineinpropertiesentering

Prepared by: Center on Urban Poverty and Community Development, Mandel School of Applied Social Sciences, Case Western Reserve University.Source: NEO CANDO (http://neocando.case.edu), Tabulation of Cuyahoga County Auditor data.

0

2000

4000

6000

8000

10000

12000

2004 2005 2006 2007 2008 2009

Number of properties

Figure 1 Properties Entering and Leaving REOCuyahoga County

Local lendersGovernment–sponsored entitiesNational lendersProperties entering REOProperties leaving REO

Year (in quarters)

Properties leaving REO in 2009 on

Cleveland’s east side were selling

for a mere 13 percent of their

estimated previous market value.


REOfromthefourthquarterof2008untilthesecondquarterof2009.GSEsreboundedsharplyin the third and fourthquarters of 2009,whilenational and local lenders’ properties enteringREOleveledoff.AllthreetypesoflendershaveseenadecreaseinpropertiesleavingREOsincethefourthquarterof2008.

Sales of Distressed REOs Dominate Some AreasTheClevelandregionhasnumerousareasinun-datedwithvacant,for-saleREOproperties.Howis theirpresenceaffectinghousingvalues?OnemeasurecomparesthesellingpricesofpropertiescomingoutofREOwiththeirestimatedmarketvaluepriortoforeclosure(seefigure2).

Not surprisingly, properties sold out of REOin Cuyahoga County, within the City ofCleveland, and in Cleveland’s suburbs areselling for less than their previous estimatedmarketvalue.Whatisnotablenowishowmuchless than their previous value these propertiesare selling for. In2000,properties soldout ofREO were purchased for up to 76 percent oftheir pre-foreclosure estimated market value.

Butby2007,post-REOsalespriceshit a lowpointrelativetotheirpreviousestimatedmar-ket value. By 2009, prices had rebounded,but only slightly. Properties leaving REO in2009onCleveland’s east sidewere selling fora mere 13 percent of their estimated previ-ous market value. In Cuyahoga County andsuburban Cleveland, properties selling out ofREO in 2009 fetched sales prices of 28 per-centand37percentoftheirestimatedmarketvalue, respectively.Thoughhousingprices alsodroppedduringthisperiod,thischangeinitselfdoesnotaccount forallof thevalue lostaftera sheriff ’s sale. Consider that from 2004 to2009, housing prices in the Cleveland metro-politanregionfellonly11percent;5takingintoaccountthealready-lowhousingpricesandthesheernumberoftransactions,thesepost-REOsalespricefigureshavedisastrouseffectsonthevalues of neighboring properties not in fore-closureandonthetaxbasesofneighborhoodsandcommunities.

REOproperties inCuyahogaCountyarealsoincreasinglybeing soldat extremelydistressedprices—definedas$10,000or less—mainly to

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Figure 2Median Percent of Property Value Remaining after Sheriff's Sale

Percent of median value remaining

SuburbsWest Side of ClevelandCuyahoga CountyCity of ClevelandEast Side of Cleveland

Prepared by: Center on Urban Poverty and Community Development, Mandel School of Applied Social Sciences, Case Western Reserve University.Source: NEO CANDO (http://neocando.case.edu), Tabulation of Cuyahoga County Auditor data.


out-of-statecorporationsandindividualslook-ingforbargains.Asfigure3shows,2.6percentofREOpropertiesweresoldatextremelydis-tressed prices in 2004, a share that increased17-fold before peaking in 2008. The propor-tion declined to 35 percent in 2009, still 13timesgreaterthanin2004.Asisthecasewithsubprime lending, this trend of houses sell-ing at extremely low prices has affected areaswithin the county disproportionately. In thiscase, too,muchof the activity is concentratedonCleveland’seastside.In2004,4percentofpropertiesonthecity’seastsidecomingoutofREO were sold for less than $10,000. Threeyearslater,nearly80percentofthepropertiesontheeastsidesoldoutofREOwerepurchasedatextremelydistressedprices.EventhoughthetotalnumberofpropertiesinthecountyleavingREO dropped significantly by 2009, the pro-portionofpropertiesleavingREOatdistressedprices on the east side of Cleveland declinedonlyslightly,from78percentto75percent.

A small number of sellers account for mostof these distressed sales. An examination ofthe owners of record for thousands of housesthatweresoldfor$10,000orlessinCuyahogaCounty from 2007 to 2009 reveals that,although numerous financial institution areinvolved in these sales, the top five sellers ofREOpropertiesatthesepricesareresponsibleformorethan50percentofthesetransactions.From 2007 to 2009, the following companiestopped the list: Deutsche Bank, Fannie Mae,WellsFargo,theU.S.DepartmentofHousingand Urban Development, and U.S. Bank.Thedataalsoshowthathousessoldfor$10,000orlessmakeupsubstantialpercentagesofallREOpropertiessold.Thesefindings,alongwithanec-dotal information provided by buyers, suggestthat some sellers are unloading large quanti-tiesofREOpropertiesatextremelylowprices.“Dumping”iswhatsomecallit.

However,publicrecordcanbedeceivinginthisregard.It is importanttonotethatwhilepub-licrecordindicatesthepartythatholdstitleto

Figure 3 Percentage of all REO Properties Sold at Extremely Distressed Prices* Cuyahoga County, 2004–2009

Percent of properties

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East side of ClevelandCity of ClevelandCuyahoga CountyWest side of ClevelandEast inner suburbOuter suburbWest inner suburb

* An extremely distressed price is $10,000 or less.Prepared by: Center on Urban Poverty and Community Development, Mandel School of Applied Social Sciences, Case Western Reserve University.Source: NEO CANDO (http://neocando.case.edu), Tabulation of Cuyahoga County Auditor data.


a property, often a bank or lender has hired aservicertohandletransactionsrelatedtoaprop-erty. Most property sales out of REO, in fact,arehandledbymortgageservicerswhoseiden-titydoesnotappearinthepublicrecordsofsalestransfers;thismakescommunicationdifficultforpartiesinterestedeitherinpurchasingapropertyorraisingconcernsaboutitscondition.6

On the purchasing side, the data reveal thatthere are many buyers of these properties—morethan1,200in2008—withonlyahandfulof buyers purchasing more than 100 proper-tieseachintheClevelandarea.Here,too,localrecordsarenotalwaysindicativeofwhat’shap-pening.Buyersmaypurchasepropertiesundermany different auspices, and may own manymore properties than public records show. Byandlarge,however,buyersareout-of-statecor-porationsorinvestors.ItistypicalforsellersofREOpropertiesandinvestorstohaverelation-ships;somesellerspackagepropertiesregionally

andsellthemtotheircustomersinbulk.Almostall properties are sold sight unseen.7 Thesetransactions,whicharecollectivelydefiningandreshapingsomeneighborhoods,areoftencon-ducted by individuals fromoutside the regionwhohavenodirectknowledgeoftheneighbor-hoodsortheproperties.8

Many Former REO Properties Left to DeteriorateAfter being sold out of REO, properties cango in two directions. Either they return tosome productive use or they continue on apath of neglect and deterioration. The priceof aproperty atREOsale is one indicator ofthe direction in which the property will go.Table1includesallREOsalesin2004–09,andevaluates three markers of deterioration as ofFebruary 2010: vacancy status as recorded bythe U.S. Postal Service and supplemented byvacancysurveydatafromtheCityofCleveland;taxdelinquencystatus,whichisconferredwhen

Table 1Distress Signs of Properties after Leaving REO, 2004–2009 (as of February 2010)

Price on leaving REO % vacant % tax delinquent % demolished*

$1–10,000 49% 56% 9%

$10,001–30,000 27% 27% 3%

$30,001–50,000 19% 19% 2%

$50,001–75,000 12% 11% 2%

$75,001–100,000 14% 11% 4%

$100,001–125,000 10% 10% 3%

$125,001–150,000 8% 4% 0%

$150,001 and above 5% 3% 0%

Total 27% 25% 5%

*Data for demolitions are available for properties located in the City of Cleveland only. Percents are out of number of REO properties in the City of Cleveland. Sources: NEO CANDO and tabulation of Cuyahoga County Auditor data by the Center on Urban Poverty and Community Development, Case Western Reserve University.


apropertycarriesabalancefromanyprevioustaxyear;andwhetherornot thepropertyhasbeendemolishedbytheCityofCleveland(pri-vatedemolitionsanddemolitionsbysuburbanmunicipalitiesarenotincludedbecausedataarenotavailable).

Properties sold for $10,000 or less representsomeofthemostat-riskfordeteriorationaftertheyleaveREOstatus.OfpropertiesthatweresoldoutofREOatextremelydistressedpricesbetween 2004 and 2009, 56 percent were taxdelinquent as of February 2010, 49 percentwerelistedasvacant,andninepercentofthoselocated in Cleveland have since been demol-ished. Properties sold at higher prices havelower incidences of these outcomes, althoughtheratesforpropertiesinthe$10,000–$30,000pricerangearestillrelativelyhigh.Markersofdeterioration are inversely related to the salesprice, suggesting that many of the propertiessold out of REO at low prices are not beingoccupied or maintained and thus are becom-ing problematic for neighborhoods and localgovernments.

Addressing the Challenges of Post-REO PropertiesTremendous efforts have been made inCuyahoga County to manage the foreclosureprocessandassisthouseholdsatriskof losingtheir homes. Now, additional and increasedattentionisbeingpaidtothemaintenanceandreutilization problems of properties that havecomethroughREO.

Critical to understanding Cleveland’s capac-itytohandlethiscrisisisawarenessofthelonghistory of local investment in building com-munity capacity. Going back several decades,local and national philanthropic organizationshave invested in institution-building by pro-viding targeted and sustained resources to thefield, particularly through intermediaries thatsupporthousingandcommunitydevelopment.9Moreover, these philanthropic organizationshave provided essential support for develop-ing a robust capacity among local universitiesthat,inpartthroughlongstandingpartnerships

withlocalgovernments,canprovideup-to-datedata on housing and neighborhoods. Localuniversitiespartnerwithcommunityorganiza-tionstoprovidedatathathelpthemdeterminewhich properties are priorities for acquisitionand rehabilitation, to keep abreast of currentproperty conditions, and to continue develop-ing tools to monitor other property issues astheyarise.

Providingthesecriticaldataandinformationtocommunityorganizationsrequireskeepingup-to-daterecordsoftheforeclosure,sheriff ’ssale,andREOstatusofproperties,aswellasgather-ingandorganizinginformationthatcanserveas a credible proxy for property delinquencystatus (such as vacancy and tax delinquencyinformation). Researchers also monitor prop-erty issues that communities are experiencingthrough more qualitative measures; in thisway, they can further support the partnershipbydevelopingtoolstohelporganizationskeeptrackofwhatisgoingonincommunities.

On the prevention side, researchers identifymortgagesthatareatriskofforeclosure—high-cost mortgages whose interest rates will soonincrease—andpassthisinformationontocom-munityorganizerswhoencouragehomeownersto seek preventative foreclosure counseling.On the remediation side, researchers providecommunity development organizations withup-to-date property transfer information,vacancy information, and tax delinquencyinformation, so organizations can strat-egize property remediation. For example, inCleveland, the Neighborhood StabilizationTeam,comprisedoflocalresearchersandcom-munity development officials, meets monthlywithneighborhoodgroupstoexchangeknowl-edgeonchangesinthestatusofneighborhoodproperties, noting, for instance, whether anyproperties have gone into foreclosure or beensold at foreclosure sale. The group then dis-cussesstrategies forrehabilitatingproblematicproperties, focusingon theproperties thatareclosesttocommunityassets.

Timely, accurate, and accessible

data are essential to strategically

addressing fore-closure prevention

and property remediation

efforts.


Thepropertyrehabilitationandacquisitionsideofthispartnershipconsists,first,ofstrategicallyidentifying areas in which to target resources,areasthathavebothgreatstrengthsandneeds.Because of limited funding, community orga-nizations must focus on rehabilitating homesinareaswithexistingcommunityassets.Onceareas are identified, community developmentorganizationskeepacloseeyeonpropertiesinthe areas, watching for foreclosure filings andpropertytransfers.

On a national level, two organizations areworking to acquire REO properties and con-nectthemtolocalorganizations:ThenonprofitNational Community Stabilization Trust wasformed in 2008 by six national nonprofitswithexpertiseincommunitydevelopmentandhousing.TheREOClearinghouse,afor-profitagency formed by Safeguard Properties, wasestablishedinearly2009.Bothagencies’purposeistohelpstemthedeclineofcommunitieswithhigh concentrations of vacant and abandonedpropertybyconnectingnational-levelservicerswith local community development organiza-tions, offering foreclosed properties to theseorganizations at discounted rates. ClevelandwasoneofthefirstcitiestoworkwithboththeTrust and theREOClearinghouse.Althoughtheseorganizations’currenteffortsinnortheastOhioaresmallinscaleandstrategicallyfocusedon very specific areas, they will help informanddirectbroader effortsgoing forward. (Seealsointhispublication“AcquiringPropertyforNeighborhoodStabilization:LessonsLearnedfromtheFrontLines,”byCraigNickerson.)

Onalocallevel,onceanorganizationestablishesaconnectionwithholdersofREOproperties—a sometimes-difficult step—it can employ anyofseveralmeasurestoreturnpropertiestovia-ble use. One new approach to cycling vacantNortheastOhiohousesbackintoproductiveuseis the recently established Cuyahoga CountyLand Reutilization Corporation (informallycalledthe“countylandbank”),whoseprimaryfunctionistoobtainandutilizetax-foreclosedproperties, although the land bank can alsoaccept any property donated to them. Led by

County Treasurer Jim Rokakis, a coalition oflocalandstateagenciesmanagedtoovercomea lot of barriers in passing state legislation tocreate the new land bank, which is modeledafter a highly successful program in GeneseeCounty,Michigan.(Seealsointhispublication“HowModernLandBankingCanBeUsedtoSolveREOAcquisitionProblems,”byThomasJ.FitzpatrickIV.)

Thecountylandbankcanhelpfurthertherevi-talization efforts of individual communitiesas well as regional coalitions. By strategicallyamassingland,itcanhelpcommunitiesimple-mentplansforcommunalgreenspaces.Poolingpropertiesinthenewlandbankwillalsomiti-gate the risks associatedwith landownership,risks that were previously assumed by small,localCDCs.Withthelandbankinplace,thesesameareaCDCscanfocustheireffortsonget-ting landbankpropertiesbackon themarketandintoproductiveuseintheirneighborhoods.

Finally, a critical component of any effort tobring vacant properties back to productiveuse is financing. The federal NeighborhoodStabilizationProgramprovides a crucial pieceof this equation, allotting funds to localitiesto help them meet their specific needs. Theprogram’s funds in Cleveland and CuyahogaCountyarehelpingtosupportthedemolitionandremediationofnumerousvacantandaban-donedproperties.However,giventheenormityoftheneedhere,thesefundswillonlygosofar.

ConclusionInsummary, thedatareveal that inClevelandand Cuyahoga County, properties are leav-ingREOthroughbulk sales at extremely lowprices. It is uncertain whether or not thesemarketprocesseswillbeabletobringproper-tiesbacktoproductiveuse.Todate,propertiessoldatextremelylowpriceshavehighlevelsofvacancyandtaxdelinquency.

Though this report focuses on Cleveland andCuyahoga County, it includes information onspecific tools being employed here that otherareasmaybeabletoreplicateandusetoidentify


and prevent potential issues.Timely, accurate,andaccessibledataareessentialtostrategicallyaddressingforeclosurepreventionandpropertyremediationefforts,andareessentialforthosecarryingouttheseprograms.

Clevelandhasbeencharacterizedasa“resilient”weak-market city, in part because of its abil-ity tousedata tostrategically targetresourceswithincommunitiestohelpspurneighborhoodrecovery.10Cleveland’sstrongnetworkofnon-profitcommunitydevelopmentorganizationsisessential todevelopingandcarryingout thesestrategies. Efforts to address the crisis—herein northeast Ohio and in every communityacross the nation—must be multifaceted andcoordinated among various entities, must bedata-driven,andmustbestrategic.

Claudia Coulton is co-directorof theCenteronUrban Poverty and Community Developmentat Case Western Reserve University (CWRU).In this role she engages in research, evaluation,and policy analysis and oversees NEO CANDO(Northeast Ohio Community and NeighborhoodData for Organizing), a web-based data ware-house for neighborhood indicators and propertyinformation.AfoundingmemberoftheNationalNeighborhoodIndicatorsPartnership,Dr.Coultonis also an advisor to community initiatives suchas the Annie E. Casey Foundation’s MakingConnectionsprogram.SheearnedaPhDinsocialwelfare fromCWRU,where she isaprofessor intheMandelSchoolofAppliedSocialSciences.

Michael Schramm, formerly of the Center onUrban Poverty and Community Developmentat CWRU, was instrumental in developing andmaintaining NEO CANDO and continues toassist community groups in the use of data andGIS mapping as tools for social change. In July2010hewasnameddirectorofITandresearchatthe Cuyahoga County land bank. Mr. Schrammreceived an MA in geography from SyracuseUniversity.

April Hirsh isaresearchassistantattheCenteronUrbanPovertyandCommunityDevelopmentatCWRU.SheworkswithDr.CoultonandMichaelSchramm on foreclosure and property issues inCleveland. Before joining the Center, Aprilinterned at Policy Matters Ohio, North CoastCommunity Homes, and Fairfax RenaissanceDevelopmentCorporation.ShereceivedanMSSAfromCaseWesternReserveUniversity.

Endnotes1 Zach Schiller and April Hirsh, “Foreclosure Growth

in Ohio” (Cleveland, Oh.: Policy Matters Ohio, 2008).Available at http://policymattersohio.org/publications.htm.

2 Claudia Coulton, Tsui Chan, Michael Schramm,and Kristen Mikelbank, “Pathways to Foreclosure: ALongitudinalStudyofMortgageLoans,ClevelandandCuyahoga County, 2005–2008” (Cleveland, Oh.: CaseWesternReserveUniversity,MandelSchoolofAppliedSocialSciences,CenteronUrbanPovertyandCommu-nityDevelopment, 2008).Available athttp://neocando.case.edu.

3 Coultonetal.,citedabove.4 Claudia Coulton, Kristen Mikelbank, and Michael

Schramm, “Foreclosure and Beyond: A Report onOwnership and Housing Values Following Sheriff ’sSales, Cleveland and Cuyahoga County, 2005–2007”(Cleveland, Oh.: Case Western Reserve University,Mandel School of Applied Social Sciences, Center onUrban Poverty and Community Development, 2008).Availableathttp://neocando.case.edu.

5 CalculatedusingtheFederalHousingFinanceAgency’shousing price index for the Cleveland-Elyria-MentorCity/MSA,salepriceonly,seasonallyadjustedusingtheannualaverageoverfourquarters.

6 Claudia Coulton, Michael Schramm, and April Hirsh,“Beyond REO: Property Transfers at ExtremelyDistressed Prices in Cuyahoga County, 2005–2008,”(Cleveland, Oh.: Case Western Reserve University,Mandel School of Applied Social Sciences, Center onUrban Poverty and Community Development, 2008).Availableathttp://neocando.case.edu.

7 Asevidencedbythebusinessmodelsofsomeofthecoun-try’slargestREObuyers.

8 Seenote7.9 Some examples of these intermediaries in Cleveland

are Neighborhood Progress Inc., Cleveland HousingNetwork,andEnterpriseCommunityPartners.

10ToddSwanstrom,KarenChapple,andDanImmergluck,“RegionalResilienceintheFaceofForeclosures:EvidencefromSixMetropolitanAreas”(Berkeley,Ca.:UniversityofCaliforniaatBerkeley,InstituteofUrbanandRegionalDevelopment,2009).


Between 2005 and 2009, home sales prices2andvolume3declinedby27percent,newhous-ing construction dropped by 71 percent,4 andthe rate of foreclosure inventory5 quadrupled.Giventhesestatisticsofaweakhousingmarket,itisnottoosurprisingthatclosetohalfoftheadultssurveyedintheNortheastUnitedStatesexpect a 50 percent or more price discountfor a foreclosed property.6 Even the federalNeighborhood Stabilization Program assumesthe availability of a significant price discountforforeclosedproperties.7Whilepotentialbuy-ershavehighexpectationsofdiscounts,sellersmay be hesitant to concede. The underlyingquestionsforthesellerarewhethertodiscounta distressed property at all and, if so, by howmuch. So how much of a discount is reallyoccurringinthecurrentmarket,andisthelevelofanypricediscountassociatedwiththe typeofpropertyandfactorslikeneighborhoodandsalescharacteristics?ThisarticleexploresthesequestionsbyexaminingdistressedpropertiesinMassachusetts, in particular, bank-repossessedhouses,alsoknownasreal-estate-owned(REO)properties.8Thesequestions,andtheiranswers,areimportantbecausemanymunicipalitiesandnonprofits (as well as private buyers) are try-ingtonegotiatewithsellersfortheappropriatepriceforproperties.

This article begins with a brief review of theliterature on distressed property sales and thelimitationsoftraditionalvaluationmethods.Itmovesontodescribetheterminologyandthedatasetused in this study.Followingasectionthat describes overall trends in REO sales inMassachusetts,thearticlethenanalyzesfactorsassociated with price discounts of REO sales.

Itclosesbydiscussingpolicy implicationsandfutureresearch.

What Does Prior Research Tell Us? Themost relevant literature,ofwhich there isratherlittle,discussestwoissues:thesalepricediscountsofdistressedpropertiesandthelimi-tations of applying the traditional residentialvaluationmechanismondistressedproperties.

Many previous studies define the discount asthe sale price difference between foreclosuresalesandnonforeclosuresales;thisdefinitionisrelatedto,butdifferentfrom,thepricedifferen-tialused inthisanalysis,asexplained inmoredetailsinthenextsection.Table1summarizesthekeyfindingsfromthesepriorstudies.Manyof these studiesfind significant salediscountsin the range of 20 percent. However, recentresearch argues that theprevious researchhasomitted important variables (such as prop-erty conditions), has other methodologicalshortcomings, and likely exaggerates the levelof price discount.9 The more recent researchgenerally concludes a discount in the 10–20percentrange.

Standardeconomicreasoningfostersskepticismabout deep discounts of distressed propertysales.Wouldn’tspeculatorsrushtotakeadvan-tage,biddingupthepricetoerasethediscount?Countering this lineof reasoning,Harding etal. argue that economic rationale could alsosupportsignificantdiscountsdueto10• significantrepaircostonforeclosedproperties• the seller’s weak bargaining position in a

weakmarket

Examining REO Sales and Price Discounts in Massachusetts1

by Kai-yan LeeFederal Reserve Bank of Boston


Table 1 Prior Research on Price Discounts of Foreclosed Properties(in order of publication date, most recent first)

Authors Study Market Study Period Estimated Price Discounts

Harding, Rosenblatt, Yao11 Atlanta, GA; Columbus, OH; Las Vegas, NV; Los Angeles, CA

1990 – 2008 –1% in Las Vegas, –11% in Los Angeles, –14% in Atlanta, and –21% in Columbus

Clauretie and Daneshvary12 Las Vegas, NV 2004 – 2007 –7.8%

Campbell, Giglio, Pathak13 Massachusetts 1987 – 2008 –21.6% to –47.2% depends on the length of properties’ time on market14

Chau and Ng15 Hong Kong, China 1996 – 2000 –1% to –10% depends on whether the sale happens in an up or down market

Pennington-Cross16 U.S. 1995 – 1999 –22% on average, but sensitive to housing condi-

tions, legal constraints, and loan characteristics

Carroll, Clauretie, Neil17 Las Vegas, NV 1990 – 1993 No statistically significant discounts

Springer18 Arlington, TX 1989 – 1993 –4% to –6%

Hardin and Wolverton19 Phoenix, AZ 1993 – 1994 –22%

Forgey, Rutherfold, VanBuskirk20 Arlington, TX 1991 – 1993 –23%

Shilling, Benjamin, Sirmans21 Baton Rouge, LA 1985 –24%

• higherriskpremiumonforeclosedproperties• stigmadiscountofforeclosure.

Second, can traditional residential valuationmechanisms even reliably appraise distressedproperties? One researcher argues that thetraditionalvaluationsystem is retrospective innature, and therefore inappropriate and unre-liable for valuing distressed properties in thecurrentcrisis;22thesystemreliesontheassump-tions of stable, liquid, open, and competitivemarkets;completeinformation;nocompulsionto sell or buy; customary marketing periods;andavailabilityofrecentcomparablesales.Butin our current circumstances, there is a largeand growing inventory of unsold distressedproperties coupled with thin transactions inthemarket,arapidandcontinuinghousepricedecline, and market comparables reflectingprevious “bubble” pricing. Other studies con-cur,furtherfindingthatappraisers,eventhosewith more experience and higher reputation

risk, tend to produce greater appraisal errorson foreclosed properties than on other typesofproperties.23

The Massachusetts REO DatasetThis article focuses particularly on the REOsale price differential, which is the differencebetween an REO property’s foreclosure auc-tionpriceanditssubsequentREOsaleprice.24This definition of REO sale price differentialisnotthesameasthepricedifferencebetweenREOsalesandcomparablenormalsales,whichwasthefocusofsomepreviousstudies.Thesalepricedifferential isnotnecessarily adiscount.About 10 percent of the REO sales includedin this article have higher REO sale pricesthantheirforeclosureauctionpricesandthusapositivepricedifferential.

Thisarticleuses theMassachusetts registryofdeeds property transaction data and assessor’sdata,whicharedigitizedbytheWarrenGroup,


aprivaterealestateinformationcompany.SomedeedofficesandtheWarrenGrouphavemanu-allyidentifiedREOsalesinthedataset,butnotvery consistently. Using a mathematical andlogicalprocess,thisanalysisrecapturesomittedREOsalesinthedataset.25Ofthe3,300REOsalesincludedinthisstudy,onlyabout55per-centwereoriginallyidentifiedasREOsintheWarrenGroupdataset.

For this analysis, only those properties thatenteredREOstatusbetweenJune2007andMay2008areincluded.The2007startdateisusedtofocusonthecurrentmarkettrendinthecrisis,whiletheMay2008enddateallowspropertiessufficient time (less than five quarters) to gothroughtheresaleprocess.26Priorresearchindi-cates thatabout85percentofMassachusetts’sREOpropertieswereresoldwithinfivequartersofenteringtheREOstatus.27

Comparing REO and Normal Sales and Prices How do REO sales differ from normal sales?Figure1comparesthesalesvolumeandmedian

sales price of all REO and all “normal” salesbetweenJuly2007andSeptember2009.Normalsales exclude foreclosure, REO, or nominalsales.28While thevolumeofnormalsalesdis-playstypicalseasonalityfluctuation,REOsalesvolume remains relatively unchanged sincemid-2008.Similarly, themedianpriceofnor-malsaleshasdeclinedmodestlywithseasonalityfluctuation;butthemedianpriceofREOsaleshasdeclinedmorenoticeablyinitiallybutwithalmostnoobviousseasonalityfluctuation lateron.ThissuggeststhattheREOandthenormalmarket may behave differently in the currenthousing cycle, possibly due to differences inthe expectations of buyers and sellers, and/orsuppliesanddemandsinthesetwomarkets.

Table2furtherillustratesthatproperty,neigh-borhood, sales, and mortgage characteristicsare indeedquitedifferent betweenREOsalesandnormalsales.Ingeneral,propertiesinREOsalestendtobeolderhomeswithslightlylargerlivingareas,morebedroomsandfullbathrooms,but smaller lot sizes.This apparent contradic-tion between larger living areas and smaller

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Figure 1Median Prices and Volumes of REO and Normal Sales

Source: Author’s calculations based on the Warren Group raw data.

Normal sales (right scale)

REO sales (left scale)

Normal sales (left scale)

REO sales (right scale)


lot sizes is mainly attributable to about 33percent of the REO sales being small multi-familystructures(twotofourunits)asopposedtolessthan8percentinnormalsales.29How do REO sales and prices differ by property and neighborhood type? Intermsofneighborhood characteristics, REO sales aremore likely to be located in neighborhoodswith a high percentage of minorities, a lowermedianhouseholdincome,asignificantdecline

in recent median home sales prices, and ahigher concentrationofhigh-cost,highly lev-eragedmortgages.30Thismakessense,asotherresearchrevealsthatneighborhoodswithsuchcharacteristicstendtohaveahigherconcentra-tionofforeclosures,whichareoftenprecursorstoREOsales.31

Small multifamily structures merit specialattention as they accounted for 23 percent ofMassachusetts’shousing stockand33percent

Table 2 Profiles of REO and Normal Home Sales

Mean Median

REO sales

Normal sales Difference

REO sales

Normal sales

Property characteristics

Lot size (sq ft) 15,260 33,079 –17,819 6,893 13,504

Living area size (sq ft) 1,857 1,705 153 1,597 1,490

Number of buildings on lot 1.003 1.027 –0.023 1 1

Number of bedrooms 3.845 3.215 0.630 3 3

Number of full bathrooms 2.365 2.24 0.125 2 2

Age of property at sale 75.502 58.214 17.288 83 50

Neighborhood characteristics

% minorities in tract 31.00% 15.70% 15.3% 19.70% 8.00%

% people in urban tracts 94.54% 94.41% 0.13% 100% 100%

Median household income $44,138 $59,749 –$15,610 $42,107 $56,365

% home sales price change in tract (2006–2009)

–32.10% –16.20% –15.9% –32.40% –16.50%

% high-cost highly leveraged mortgages 0.15% 0.08% 0.078% 0.14% 0.06%

Sale and mortgage history

Days since last normal sale 1,757 3,112 –1,354 1,280 2,016

Days since last mortgage/refinance 1,087 1,288 –200 1,019 1,121

All differences are statistically significant at 1%, except “% people in urban tracts”


of itsREOsales.32Figure2 reveals that theirREOsalesexperienceisalsonoticeablylongerthanthatofsingle-familypropertiesandcon-dominiums in terms of time on the market.33Themediantimeonthemarketforsmallmulti-family(262days)ismorethan50percentlongerthanthatofsingle-familyproperties(171days).Thisgapismoreconspicuousimmediatelyafterthe foreclosure sale, narrowing later, suggest-ing that small multifamily REO propertiesmayhavemoredifficultiesinattractingbuyersinitially,possiblybecauseoffactorslikehigherupfrontfinancialcommitmentandhigherrisk.From the community perspective, longer timeonthemarketforsmallmultifamilystructuresmeansthattheyexertnegativeeffectsoncom-munities for a longerperiodof time,delayingtherecovery incommunitieswithahighcon-centrationoftheseproperties.Figure3showstheREOsalepricedifferentialsby property type. As expected, most proper-ties,regardlessoftheirtype,sellforadiscount(thedistributionisskewedleft).Thisfigurealso

reveals thatsmallmultifamilyREOsaremorelikely to experience greater price discountsthan single-family and condominium REOs.The median sale price differentials for smallmultifamily, single-family, and condominiumREOs are –40.6 percent, –19.9 percent, and–29.2percent,respectively.

Figure4furtherillustratesthatREOsalepricedifferentialsareassociatedwithvariousneigh-borhood characteristics, including the percentof home sales that are REO sales, medianhouseholdincome,thepercentofracialoreth-nicminorities in the tract, and thepercentofhigh-costmortgages.Twosetsoflinesareusedinthecharttoexaminetheexperiencesofdif-ferent types of neighborhoods.The solid linesrepresenttheexperienceofneighborhoodswithahigherlikelihoodofforeclosureandthedashedlines represent the experience of neighbor-hoodswithalowerlikelihoodofforeclosure.34Quite clearly, REO sales in neighborhoodswithhighforeclosurelikelihood(highshareofREOs,highshareofhigh-costloans,highshare

Cumulative percent of REO sales

Time on market (days)

Figure 2Time on Market of REO Sales(Massachusetts properties that entered REO status in 2007)

Note: Time on market is defined as the number of days between foreclosure sale and REO sale. Source: Author’s calculations based on the Warren Group raw data.

Single–familyCondominiumSmall multifamily

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100

0 54045036027018090 720630


of minority population, and lower income)commandgreaterdiscounts.Itisstrikinglyevi-dentthattheseeightdistributionsclusterintotwoshapes,one for lines representingcharac-teristicsofhighforeclosurelikelihoodandtheotherforlowlikelihood.Thisismostlybecausethat these variables arehighly correlatedwitheach other, a phenomenon stemmed fromthe fact that high-cost mortgages were morecommon in racialminority and lower-incomeneighborhoods.35

The Facts about REO DiscountsThis section summarizes the results of apply-ingseveralregressionmodelstoanalyzefactorsrelated to theREOpricedifferential.36Majorfindingsinclude:• Steeper price discounts for REO properties

were associated with certain neighborhoodcharacteristics. Specifically, lower householdincomes, a higher share of minorities, andsteeperoverallhouse-pricedeclinessawcom-parativelylowerpricesforREOsales.

• An REO property’s sale price differential

isnegativelyassociatedwith its timeonthemarket.REOsshowlittleevidenceofseason-alityinsalestrends.

•Using a composite model that controls forproperty, neighborhood, and sales charac-teristics, it reveals that, on average, a smallmultifamilyREOsaleisassociatedwitha4.6percentage discount, everything else beingequal.This affirms the earlier trend analysisthat smallmultifamilyREOproperties facea more challenging market and that theyare more likely to experience a greater salepricediscount.

• Inthecompositemodel,thenegativeassocia-tionbetweenREOsalepricedifferentialandthe concentration of REOs has the great-est magnitude. In addition, REO sale pricedifferentialisassociated,inthiscaseupward,with stronger housing market conditions(that is, a smaller decline in median homesalepriceinhigher-incomeneighborhoods).Moreover, themodel also indicates that, onaverage,everyadditionaldayanREOprop-ertyisonthemarketlowersitsprice.

Frequency (percent)

Figure 3Distribution of REO Sale Price DifferentialBy property type

Source: Author’s calculations based on the Warren Group raw data.

0

2

4

6

8

12

0–80–100 80604020–40–60 –20

10

REO Sale Price Differential (percent)Greater Discount

Single-familyCondominiumSmall multifamily


Limitations and Future ResearchThe analysis in this article has several limita-tions. First, it includes only REO propertieswithasuccessfulsubsequentREOsaleandmayhave left out the less-desirable REO proper-ties,possiblyintroducinganupwardbiasinitsestimatedsalepricedifferential.Second,prop-ertiesthatenteredREOstatusnearMay2008may still lack sufficient time to complete theREOsaleprocessandmaynotbecorrectlycap-turedinthisstudy.Third,theregressionmodelscannot successfullycontrol for spatial interde-pendence and property conditions, which arelikelytohaveanimpactonsaleprice.Moreover,theremaybevarianceinthedurationbetweenforeclosure sale date and the actual date thepropertywas listed forREOsale.As timeonthemarketiscountedfromthedateofforeclo-sure sale onward in this article, such variancecould affect its accuracy. Lastly, the modelscannotcontrol for lenders’motivation in fore-closureandREOsales(forexample,expeditedsalesofdistressedpropertiesforaccountingrea-sons), and somemaybewilling toconcede togreater-than-usualdiscounts.37Futureresearch

canhelpaddresstheselimitations,andcanalsoascertainanothertypeofsalepricedifferentialbetween the prices of REO sales and that ofcomparablenondistressedsales.

Conclusion and ImplicationsThe large amount of REO properties nation-wideisauniqueeventofthepast50years,andthere is relatively little literatureontheirsalesprice. The analysis in this article reveals thatREO properties’ time on market is stronglyassociatedwiththeirsalepricedifferential,soaquicksaleisimportant.Thiscouldbeachievedbymakingsalesinformationmoretransparent,byhavinglendersprovidedirectREOcontacts,by standardizingpaperwork in theREOsalesprocess,andbyworkingproactivelywithnon-profitswiththecapabilityandinterest inbulkpurchases(arareoccurrencethusfar)tomini-mizelengthyindividualnegotiation.

Second, this article demonstrates that smallmultifamily REO properties merit additionalpolicyattention for their longer timeonmar-ketandgreatersalepricediscount.Thesesmall

Share of total (percent)

Figure 4REO Sale Price Differential by Neighborhood Characteristics

Source: Author’s calculations based on data from the U.S. Census, HMDA, and the Warren Group.

0

2

4

6

8

12

0–80–100 80604020–40–60 –20

10

REO Sale Price Differential (percent)Greater Discount

High % of overall sales are REOLower median incomeHigh percentage of racial minorityHigh % of high cost loans

Neighborhood characteristics with high likelihood of foreclosure

Low % of overall sales are REOHigh median incomeLow percentage of racial minorityLow % of high cost loans

Neighborhood characteristics with low likelihood of foreclosure


multifamily properties are a critical compo-nent of the housing stock in Massachusetts,especially for the socially and financially vul-nerable populations.38 Stabilization of thesepropertiesisnotonlycriticalforthehealthofNew England’s housing market, but also forminimizingthenegativeimpactonthesemostvulnerableoccupants.

Last, this study reveals that racial minori-ties and lower-income neighborhoods havea disproportionate share of the REO sales inMassachusetts, likelyduetotheirhighercon-centrationofforeclosuresandhigh-cost,highlyleveraged mortgages. Stabilization in theseneighborhoodsrequiresamorecomprehensiveapproachgoingbeyondREOpropertiestotherootcauses.FairaccesstosafermortgagesandbetterfinancialeducationonhomepurchasingaresomeofthepreventiveandcomplementaryeffortstoREOrescueefforts.

Kai-yan Lee is a policy analyst at the FederalReserve Bank of Boston. His primary areas ofresearch include urban and economic develop-ment, community revitalization, housing, andregionaleconomics.BeforejoiningtheBostonFed,heworkedattheU.S.GovernmentAccountabilityOffice,at theMassachusettsLegislature,andatametropolitan planning agency in California. Healso served as a redevelopment commissioner fortheCityofStockton,CA.HeobtainedhisgraduatedegreesfromHarvardandMITandhisBAfromtheUniversityofCalifornia.

Endnotes1 Thisisanabridgedversionofthefullpaper,whichcanbe

accessedatwww.bos.frb.org/commdev/pcadp/index.htm.2 S&P/Case-ShillerHomePriceIndex,NationalAssocia-

tionofRealtors.3 NationalAssociationofRealtors.4 U.S.CensusBureau.5 MortgageBankersAssociation.6 RealtyTrac and Trulia, “New Survey from Trulia and

RealtyTrac Shows Investors, Trade-up Buyers andRentersMostLikelytoConsiderForeclosurePurchase,”(December15,2009).

7 Section 2301(d)(1) of the Housing and EconomicRecovery Act of 2008 initially established a minimum15percentdiscountrequirementforaggregateforeclosedpropertyacquisitionsintheNeighborhoodStabilizationProgram.Thisrequirementwaseliminatedayearlater.

8 In this article, “REO sale” refers to the sale of aproperty, previously foreclosed, by a lender to a privatebuyer. The REO sale can occur anytime after a fore-closure auction in which usually the bank has retainedownershipoftheproperty.

9 JohnP.Harding,EricRosenblatt,andVincentYao,“TheForeclosureDiscount:MythorReality?”WorkingPaper.( January11,2010);andTerrenceM.ClauretieandNass-erDaneshvary,“EstimatingtheHouseForeclosureDis-count Corrected for Spatial Price Interdependence andEndogeneityofMarketingTime,”Real Estate Economics37(1)(2009):43-67.

10Harding,Rosenblatt,andYao(2010).11Hardingetal.(2010).12ClauretieandDaneshvary(2009).13John Y. Campbell, Stefano Giglio, and Parag Pathak,

“ForcedSalesandHousingPrices,”DiscussionPaper.14The Campbell et al. study also includes other types of

“forcedsale,”butthefigurescitedhereareforforeclosedpropertiesonly.

15Kwong Wing Chau and R. Ng, “Agency Theory andForeclosureSalesofProperties,”International Journal of Property Sciences1(1)(2008):16-24.

16Anthony Pennington-Cross, “The Value of ForeclosedProperty,” Journal of Real Estate Research 28 (2006):193-214.

17ThomasM.Carroll,TerrenceM.Clauretie,andHelenR.Neil,“EffectofForeclosureStatusonResidentialSellingPrice:Comment,” Journal of Real Estate Research 13 (1)(1997):95-102.

18ThomasSpringer,“SingleFamilyHousingTransactions:SellerMotivation,Price,andMarketingTime,”Journal of Real Estate Finance and Economics13(3)(1996):237-254.

19William G. Hardin and Marvin L. Wolverton, “TheRelationshipbetweenForeclosureStatusandApartmentPrice,”Journal of Real Estate Research12(1996):101-109.

20FredA.Forgey,RonaldC.Rutherfold,MichaelL.Van-Buskirk, “Effect of Foreclosure Status on ResidentialSellingPrice,”Journal of Real Estate Research9(3)(1994):313-318.

21JamesD.Shilling,JohnD.Benjamin,andC.F.Sirmans,“Estimating Net Realizable Value for Distressed RealEstate,”Journal of Real Estate Research5(1990):129-139.

22Charles S. Laven, “Pricing and Valuation of VacantProperties: Developing a Neighborhood StabilizationApproach,” Presented at the NeighborWorks TrainingInstitute.(December11,2008).

23ShuangZhuandR.KellyPace,“DistressedProperties:ValuationBias andAccuracy,”presented at theCriticalIssuesinRealEstateSymposium,FloridaStateUniver-sity,April2010.

24“Lender” is used loosely in this article, which alsoincludes lenders’ representatives such as servicers andtrustees.Insomestates,propertiesincourt-imposed“strictforeclosures”oftenbypasstheforeclosureauctionsteptoenterREOstatusdirectly.Inthosecases,noforeclosureauction prices are observed. However, Massachusettsdoes not allow “strict foreclosures,” so these exceptionsarenotaconcernforthisarticle.


Technical Note on Regression Models

This section presents further detail on five hedonic regression models assessing the correlation between the price differential and the property, neighborhood, and sales characteristics of these REO sales.

Hedonic regression model is a commonly accepted method to study factors corre-lated with property pricing, including distressed properties.39 The general form of the models is:

where the dependent variable, PDij, is the sale price differential of REO property i in census tract j. Sale price differential is, as defined earlier, the percentage difference between the property’s foreclosure sale price and its subsequent REO sale price. There are three bundles of independent variables: 1) PCi is a vector of property character-istics for property i, including lot size, living area size, number of buildings on lot, number of bedrooms and full bathrooms, age of property, and dummy variables for small multifamily and condominium structures; 2) NCj is a vector of neighborhood characteristics for tract j, including the percentage of racial and ethnic minorities in the tract, the percentage of residents who live in urban areas, median household income, the percentage of home sale price change between 2006 and 2009, and the percentage of sales in tract that are REO sales in the same period; and 3) SCi is a vector of sales characteristics for property i, including the days on market and dummy variables for the quarter in which the property is sold.

The property and neighborhood characteristics included are typical in hedonic pricing models, with the exceptions of property type dummies and the percent of home sales that are REO sales. The property type dummies are included because of their promi-nence in Massachusetts’ housing stock and REO sales. The percent share of REO sales in a tract’s home sales controls for local spillover effects within a tract from nearby distressed sales, which recent studies have widely documented as a factor in driving down an individual property’s sale price.40

In addition to the models controlling for various bundles of these variables, the last composite model includes a set of census tract dummy variables (714 in total) to control for the time-invariant fixed effects from omitted and unobserved neighbor-hood factors, such as the school districts for these properties and the neighborhood’s overall physical attractiveness.

This study attempted to control for, albeit unsuccessfully, REO properties’ conditions at sale in two ways: the most recent assessor’s record for property conditions and records of renovation. Further investigation into assessors’ records revealed that their records on these two variables are not sufficiently consistent to be included.

PDij = βO + β1PCi + β2NCj + β3SCi + ɛij,


25Thefullversionofthepaper,whichisaccessibleathttp://www.bos.frb.org/commdev/pcadp/index.htm, includes adetaileddescriptionofthealgorithm.

26ThistimeframealsominimizesthepotentiallydistortingimpactsoftheMassachusetts90-dayrighttocureprotec-tionforforeclosedhomeowners(Chapter206)thatwentintoeffectinMay2008.

27Willen,Paul.“REORetentionRatesinMassachusetts.”PresentedattheFurmanCenterRoundtable,NewYorkUniversity(May2008).

28A“normal” sale is generally called an arm’s-length sale,referringtoa transaction inwhichsellersandbuyersofthe property act independently without undue pressureor interest fromtheotherparty.Anominal saleusuallyreferstoameretransferofownership,suchasaddingaspouse’sname.

29About one-third of the normal sales are condominiumpropertiesanditislikelythatsomeofthemareunitsofsmallmultifamilyproperties.

30Based on convention, loans are considered “high-cost”loans if theirannual interestratesare6pointsoraboveTreasurysecurities.Somestudiesusehigh-cost loansasaproxyforsubprimeloans.Loanunderwriterstypicallywouldliketosee20percentequitywhenunderwritingamortgage,butthisthresholdfor“highleverage”ismorefluid, especially in tight and expensivehousingmarkets(e.g., Manhattan) where underwriting mortgages withloan-to-valueratiogreaterthan0.8aremorecommon.

31Michael Grover, Laura Smith, and Richard Todd,“Targeting Foreclosure Interventions: An Analysis ofNeighborhood Characteristics Associated with HigherForeclosureRates inTwoMinnesotaCounties,”Journal of Economics and Business 60 (1-2) (2008): 91-109; andKristopher Gerardi and PaulWillen, “Subprime Mort-gage,Foreclosures,andUrbanNeighborhoods,”The B.E. Journal of Economic Analysis and Policy9(3)(2009).

32HistoricalCensusofHousingTables.2000Census.U.S.CensusBureau.

33Days elapsed between a property’s initial foreclosureauctionand its sale as anREO.Figure2 includesonlyproperties that entered REO status in 2007, to allowsufficienttimetoageandcleartheREOsaleprocess.

34Forthepurposeof thisfigure,“high level” isdefinedasthe top quartile and “low level” is the bottom quartile.Forinstance,aneighborhoodwitha“highpercentageofhomesalesareREOsales”referstothetractswithsuchpercentageinthetop25percentilerankamongalltracts.

35PaulS.Calem,KevinGillen,andSusanWachter,“TheNeighborhood Distribution of Subprime MortgageLending,” Journal of Real Estate Finance and Economics29 (4) (2004): 393-410; William Apgar and AllegraCalder,“TheDuralMortgageMarket:ThePersistenceofDiscriminationinMortgageLending.”InXavierdeSouzaBriggs, ed., The Geography of Opportunity: Race and Housing Choice in Metropolitan America (Washington,D.C.: The Brookings Institution, 2005): 101-123; andKristopher Gerardi and PaulWillen, “Subprime Mort-gage,Foreclosures,andUrbanNeighborhoods,”The B.E. Journal of Economic Analysis and Policy9(3)(2009).

36For those who wish greater detail and a discussion ofcaveats,atechnicalappendixcanbefoundonlineatwww.bos.frb.org/commdev/pcadp/index.htm.

37SeeMichaelGlower,DonaldR.Haurin,andPatricH.Hendershott,“SellingPriceandSellingTime:theImpactofSellerMotivation,”Real Estate Economics26(4)(1998):719–740,whichprovidesamoredetailedanalysisontheimpactofsellers’motivationonthesellingprice.

38Forinstance,aboutoneinsixsmallmultifamilyunitsinthe Boston metropolitan area was occupied by seniorsandmorethanaquarter(27percent)oftheresidentsoftheseunitslivedinpoverty.U.S.DepartmentofHousingandUrbanDevelopmentandU.S.CensusBureau,U.S. Census Bureau Current Housing Reports, Series H170/07-3, American Housing Survey for the Boston Metropolitan Area: 2007(2009).

39For instance, see Zhenguo Lin, Eric Rosenblatt, andVincentYao,“SpilloverEffectsofForeclosuresonNeigh-borhoodPropertyValues,”Journal of Real Estate Finance Economics 38(4)(2009);andJennySchuetz,VickiBeen,IngridG.Ellen,“NeighborhoodEffectsofConcentratedMortgageForeclosure,” Journal of Housing Economics 17(2008):306-319.

40Kai-yan Lee, “Foreclosure’s Price-Depressing Spill-overEffectsonLocalProperties:ALiteratureReview.”CommunityAffairsDiscussionPaper2008-01 (FederalReserveBankofBoston,2008).


Through two federal responses to thedeepest economic recession since the GreatDepression—the Housing and EconomicRecovery Act of 2008 (HERA) and theAmerican Recovery and Reinvestment Actof 2009 (ARRA)—Congress directed some$6 billion toward efforts aimed at stabiliz-ing neighborhoods through the acquisition,rehabilitation, financing, demolition, andland banking of properties that are blight-ing communities around the country.1 TheNeighborhood Stabilization Program is thevehicle through which those funds were dis-tributed;theU.S.DepartmentofHousingandUrban Development (HUD) is the federalagencychargedwithdistributingthefundsandmonitoringtheiruse.

Under the HERA, HUD distributed $3.92billionformulaically,usingCommunityDevel-opmentBlockGrantguidelines;2thisfirstinfu-sionoffundsisreferredtoastheNeighborhoodStabilization Program 1 (NSP1). Under theARRA,Congressallocatedanadditional$1.93billion, which was competitively awarded byHUD.Thissecondallocationoffundsthroughthe Neighborhood Stabilization Program isknown as NSP2. Communities around thecountryquickly realized that these allocationsto neighborhood stabilization, though largein number, still could not make a significantdentintheblightthatischallengingcommu-nitystability.

It is our contention that, in order to maxi-mize the impact of NSP investments, thefundsneededtobeinvestedlocallywithguid-ance from the best available market data. By

themselves,NSPfundscouldnotredevelopanarea;theycould,however,supportstabilizationifinvestedstrategically.

HUD’s Distribution of NSP FundsIn the HERA, Congress required HUD tocreateafundingformulathatwouldrecognizeandquantify thenotionof“greatestneed.”Bystatute, HUD’s formula for greatest need wastoincludethenumberandpercentageofhomeforeclosures, subprime mortgages, and homeswith default and delinquency status. On theirface,theseareentirelyappropriateindiciauponwhich to build a funding formula. However,thosefamiliarwiththeissueknewimmediatelythat this formula was virtually impossible; noreliable or universally available data on eitherdelinquency or foreclosure exist. Moreover,althoughthesemighthavebeentheappropri-ateindicators,theylikelydidnotrepresentthecompletesetnecessarytopinpointtheproblem.Lastly, Congress did not contemplate—andHUD did not incorporate—indicators of alocal market’s strengths, challenges, or assets.Nevertheless, Congress’s objective was good:thatHUDshouldmakedata-baseddecisionsinallocatingthesefunds.In an almost unprecedented fashion, HUDcreatedindicesbasedonavarietyofdatathat,albeitimperfect,generallypointedtotheareasof greatest need. HUD’s solution fit well intoVoltaire’smaxim,“Theperfectistheenemyofthegood.”UnderNSP1,HUDcreatedanindexwithscoresrangingfromoneto10,withhigherscoresrepresentinggreaterneed.UnderNSP2,the scores were slightly more refined; theywerebasedonbetterdataandrangedfromone

Maximizing the Impact of Federal NSP Investments through the Strategic Use of Local Market Data

by Ira Goldstein The Reinvestment Fund


to 20, with higher scores representing greaterneed, risk, or both. HUD’s guidance to thepublic was that, to comply with Congress’smandate,NSPfundsmustbetargetedtoareaswithhigherscores.

Generous Allocation, Giant ShortfallEven the generous amount of moneyavailableunderNSP1wasinsufficienttoover-come the blighting influences across all areaswithinalocalewithhighscores.Infact,NSP1fundswereinsufficienttoaddresstheblightinginfluencesinevenasingleimpactedareawithinsomelocales.Table1illustratessomeexamplesof recipients of NSP1 funds from around theUnitedStates.Foreach,wepresenttherecipi-ent city’s NSP1 allocation (less an allowable10 percent administrative cost), the mediansale price of homes there, the figure that is

80 percent of that median sale price, and anestimated number of homes that could beacquired (or“touched,” in the languageof thelegislation)byNSP1funds,giventhosemedianprices.3In none of the cities in table 1 wouldNSP1 touch more than 3–4 percent of thevacant residential properties as identified byPostalServicedata.

Additional sources corroborate this finding.Underthebest-casescenario,forexample,theCityofDetroit coulduse itsNSP1allocationtotouchfewerthan2,600properties.However,the Detroit Vacant Property Campaign esti-mates that there are some 78,000 vacantaddresses throughout the city. The City ofBoston estimates it had 187 residential dis-tressed properties as of 2008,4 yet its NSP1allocationwouldaccommodatetouchingfewer

Table 1 NSP Allocations and Properties These Funds Could “Touch”

NSP1 allocation*

NSP1 allocation

less 10% admin cost

Median

sale price 2008**

80%

median sale price

2008

Median sale price

2009 (Q2) **

80% median

sale price 2009


touched (2008

prices)


touched (2009

prices)

USPS vacancies

2009 (Q2) ***

Estimated percent

touched by NSP1 funds

(2009)

Phoenix $39,478,096 $35,530,286 $150,660 $120,528 $85,500 $68,400 295 519 36,809 1.1%

Sacramento $18,605,460 $16,744,914 $190,500 $152,400 $164,000 $131,200 110 128 6,214 1.9%

Miami $12,063,702 $10,857,332 $209,000 $167,200 $140,000 $112,000 65 97 7,227 1.1%

Atlanta $12,316,082 $11,084,474 $119,000 $95,200 $87,000 $69,600 116 159 15,263 0.9%

Chicago $55,238,017 $49,714,215 $230,000 $184,000 $185,000 $148,000 270 336 43,563 0.7%

Boston $4,230,191 $3,807,172 $327,000 $261,600 $315,481 $252,385 15 15 N/A N/A

Baltimore $4,112,239 $3,701,015 $230,000 $184,000 $215,000 $172,000 20 22 21,942 0.1%

Detroit $47,137,690 $42,423,921 $31,875 $25,500 $20,500 $16,400 1664 2587 59,692 3.6%

Las Vegas $14,775,270 $13,297,743 $175,000 $140,000 $106,000 $84,800 95 157 13,163 1.0%

Cleveland $16,143,120 $14,528,808 $26,667 $21,334 $25,000 $20,000 681 726 22,084 3.2%

Philadelphia $16,832,873 $15,149,585 $120,000 $96,000 $105,000 $84,000 158 180 23,745 0.7%

*Source: http://www.hud.gov/offices/cpd/communitydevelopment/programs/neighborhoodspg/nsp1.cfm **Source: Policymap.com***Source: USPS city-level vacancy estimates from Policymap.com


than20.InPhiladelphia,approximately22,000residential properties have stood vacant formorethan12months;NSP1allocationscouldtouch fewer than 200, and NSP2 allocationsareprojectedtotouchfewerthan1,000more.5Inlightofthis,wecontendthatacommunity’sneighborhood stabilization program can suc-ceed only if it selects reasonably small areaswhereinNSPfunds,eitheraloneorintandemwith other public or private funds, address asignificant portion of the blighting influencesin those areas.Weusedatadescriptiveof theCityofPhiladelphiatoexplorethiscontention.

Using Data to Pinpoint the Problem Grantees and aspiring grantees employedHUD-supplied and other data in a varietyof ways to help target their activities underNSP1 and NSP2.6 The Local InitiativesSupport Corporation (LISC), for example,created some customized measures for iden-tifying areasof greatestneed andmade thosedatapublicly available at theZIPcode level.7Several communities around the country thatreceivedNSP1dollarsusedavarietyofadmin-istrativeandsecondarydatatotargetacquisitionofproperties.8

Figure 1Philadelphia MVA, 2008

Market Value Analysis, 2008

Rental marketFewer than 10 houses per block groupEstimated market area

Transitional

Steady

Regional choice/High value

Distressed


Table 2Market Characteristics of Philadelphia MVA Categories

Market Value Analysis 2007–2008

Median sales price

2006–2007

Coefficient of variance

of sales price

2006–2007Vacancy

factor

Foreclosures as a percent

of sales 2006–2007

Percent owner

occupied 2007

Percent commercial

or stores with

dwellings

Percent of residential properties tax abated

or built 2000–2008

Percent of rental

units that are PHA

owned

Housing units

per acre

Regional choice/ High value

Median $960,450 0.47 0.4 12.5 90.3 4.4 3.4 0.0 0.8

Mean $928,670 0.45 0.5 37.5 74.4 5.4 4.0 0.0 4.3

Median $550,000 0.54 0.3 4.4 29.9 6.1 4.5 0.0 18.9

Mean $576,436 0.51 0.6 8.3 34.1 6.9 15.5 0.4 20.7

Median $351,250 0.38 0.6 7.7 49.8 4.3 3.7 0.0 13.5

Mean $360,387 0.41 1.1 17.2 48.5 7.5 11.5 0.7 17.5

Steady

Median $220,000 0.28 0.6 14.6 64.0 3.2 0.7 0.0 8.4

Mean $224,727 0.31 1.1 18.9 61.3 6.1 3.9 0.6 10.5

Median $171,000 0.28 0.6 29.1 62.5 2.9 0.0 0.0 9.5

Mean $179,421 0.32 1.2 39.2 60.4 5.3 1.3 0.5 10.9

Transitional

Median $124,000 0.29 1.2 27.4 76.9 2.8 0.0 0.0 12.6

Mean $125,974 0.32 1.9 36.0 71.0 4.4 1.0 0.8 12.6

Median $80,000 0.41 4.3 39.2 68.5 3.4 0.0 0.0 12.7

Mean $82,226 0.45 5.0 46.0 63.9 5.3 1.1 2.7 12.5

Distressed

Median $49,925 0.55 9.5 45.5 63.6 4.0 0.0 0.9 13.1

Mean $50,325 0.56 9.8 52.1 61.0 5.6 0.3 3.2 12.9

Median $28,875 0.75 13.8 27.1 55.6 4.0 0.0 3.8 12.1

Mean $27,153 0.81 13.7 32.7 52.9 5.6 0.4 10.8 12.5

City totalMedian $105,900 0.42 2.9 27.5 62.3 3.7 0.0 0.0 11.2

Mean $137,701 0.47 5.3 35.5 58.6 6.3 2.3 3.0 12.2

Sources: The City of Philadelphia’s Board of Revision of Taxes, Department of Revenue, and Prothonotary; the United States Postal Service; the Philadelphia Housing Authority; and Claritas, Inc.


Some used our tool to help direct their NSPactivities.TheReinvestmentFundhasworkedwith a number of cities and states to prepareaMarketValueAnalysis(MVA),9anobjective,data-basedtoolusedtocharacterizetheunder-lyingdynamicsofalocale’srealestatemarkets.The MVA is designed to help public officialsmakeinformeddecisionsaboutthedesignandnatureofreinvestmentactivitiesaswellasthesizeandtypeofinvestmentsnecessarytoinflu-encethatmarketpositively.Itisbasedonasetofindicators,someofwhicharetypicallyfoundamong a locale’s administrative records; other

indicatorsmayneedtobepurchasedorlicensedfromthird-partydataproviders.10

Preparation of Philadelphia’s MVA involvedattachingthefollowingindicators,drawnfromavarietyofpublic andadministrative sources,to each of the approximately 1,800 census-blockgroupsinthecity:11• median sale price of homes sold in

Philadelphiain2006and2007• numberofsalesasapercentofhousingunits

(thatis,thevelocityoftransactions)• housingunitsperacre

Figure 2Northwest Philadelphia MVA with Foreclosure Filings

Note: Foreclosure filings 2005–07 and Q1 2008

West Oak Lane

Cedarbrook

East Oak Lane

East Mount Airy

Germantown


Rental marketFewer than 10 households per block groupEstimated market area

Transitional

Steady


Distressed


• mortgage foreclosure filings in 2006 and2007asapercentofsalesin2006and2007

• percentofpropertiesthatarecommercial• percentofproperties thatarereal-estate-tax

abatedorbuiltafter2000(reflectiveofnewconstruction)

• percentofpropertiesthatareowneroccupied• residentialvacancyfactor.12

Thecensus-blockgroupisusedfortworeasons.First,itissufficientlysmallthatitcapturesthemosaicthatexistsinmostcommunitiesacrossthecountry.Second,itislargeenoughthatdata

canusuallybereliablyaggregatedformappingandstatisticalanalysis.

Creating a Market Value AnalysisEachoftheseindicatorsismappedandsystem-atically examined for accuracy. Next, the dataareanalyzedusingastatisticalclusteranalysisthatidentifieshomogeneousgroupingsofblockgroups. Upon completion of the analysis, theclusters are mapped; the resulting map formsthebasisofourinitialvisualinspectionofthecity. Inspections aredesigned to identify con-sistency in the statistical-cluster identification

Figure 3Northwest Philadelphia Vacancy Estimate with Foreclosure Filings


West Oak Lane

Cedarbrook

East Oak Lane

East Mount Airy

Germantown

Vacancy Factor

1.0 or less1.1 - 2.02.1 - 5.05.1 - 9.09.1 - 15.0Over 15Too few properties to calculatevacancy factor


aswellasdifferencesacrossclustertypes.Anyrequiredmodelingadjustmentsarethenmadeto the MVA, after which the clusters are re-mapped, re-examined, and reviewed by localsubject matter experts to ensure that the sta-tisticalresultsareconsistentwiththeobservedbuiltenvironment(seefigure1).

Table2showstheconstellationofcharacteris-ticsforeachofthemarkettypesinPhiladelphia’sMVA.The analytic power comes not only inthe proper identification of what each indi-vidualblockgroupmanifests,butalso inhowadjacentblockgroups are characterized.Thus,ahighlydistressedblockgroupsurroundedbyotherhighlydistressedblockgroupsrepresentsalargeexpanseofmarketdistresswithoutadja-cent stronger markets upon which to build.

Conversely,ahighlydistressedblockgroupthathas transitional or steady block groups nearitmaybeabletodrawonthosepositive localmarketforcestohelpeffectchange.

What Does the MVA Tell Us? Ingeneral,thedataclearlysuggestthathighlydistressedareas—especiallythosethatarecon-tiguous to other highly distressed areas—areprobably not places in which NSP funds willbesufficienttoaddresstheexistingproblemofvacant and abandoned properties.Within theCityofPhiladelphia,manyof thehighlydis-tressedareascould,bythemselves,consumetheentiretyoftheCity’sNSP1allocationwithoutaddressing the majority of that single area’sproblem.Moreover, experts report thathighlydistressed communities often are plagued by

Figure 4Eastern North Philadelphia MVA with Foreclosure Filings


Kensington

Harrowgate

Richmond


Rental marketFewer than 10 households per block groupEstimated market area

Transitional

Steady


Distressed


otherissues(forexample,violentcrime,extremepoverty,andracialturnover)inadditiontohav-inghighnumbersofabandonedandforeclosedproperties that contribute to the area’s wide-spreadblight.13

Figure 2 focuses on a community in thenorthwest section of Philadelphia; its neigh-borhoodsareknownlocallyasEastandWestOak Lane, East Mount Airy, Germantown,and Cedarbrook. In MVA terms, this com-munity is characterized by a preponderanceof “transitional” markets.Table 2 displays thecharacteristics of these markets, including

modest home prices, relatively low levels ofvacancy,modestforeclosurelevels,highowneroccupancy, little new construction, limitedassisted-rental housing, and modest density.Economically,residentsoftheseneighborhoodshavemodestincomes,commensuratewiththehomeprices; racially, theseneighborhoodsarealmost exclusively African-American. Figure2 also displays foreclosure filings (each filingbetween 2005 and the first quarter of 2008is represented with a black dot). A review ofHUD’s NSP1 scores shows this area to belargely undifferentiated in the highest rangesof foreclosure risk. The NSP2 scores provide

Figure 5Eastern North Philadelphia Vacancy Estimate with Foreclosure Filings


Vacancy Factor

1.0 or less1.1 - 2.02.1 - 5.05.1 - 9.09.1 - 15.0Over 15Too few properties to calculatevacancy factor


a more accurate depiction, with scores in themodest range. Surrounding the “transitional”markets are some steady markets—amongthem East Oak Lane, Cedarbrook, and EastMountAiry—thatprovidelocalhousingmar-ketstrengthuponwhichtobuild.

Figure 3 shows the same geographic area asfigure 2, shaded according to our estimatedvacancy factor.The neighborhoods, except forGermantown at the southernmost tip of thelarger area, manifest low to medium levels ofvacancy.ThisisconsistentwiththeMVA’scate-gorizationoftheseareasastypicallytransitional.

Figure 4 shows an area of the city known asEastern North Philadelphia. Communitiesshown in figure 4 include Kensington,Harrowgate, and Richmond. Note the vastexpanseofseverelydistressedmarkets,withsomeneighboring distressed markets. According totable2, areas in this category reflect the low-est levels of Philadelphia’s home-price range,elevatedvacancies,typicalPhiladelphiahome-ownership rates, and high levels of subsidyattached to the rental market. Economically,these are poor areas. Racially, the populationin this area is largely African-American inthewesternportion, transitioningeastward toHispanicandthenethnicnon-Hispanicwhiteatthefareasternsections.Notealsotheabun-danceofforeclosures.HUD’sNSP1andNSP2scoresrevealthisareatobeconsistentlyinthehighestrangesofrisk.

Lastly,figure5showsthehousingvacancyfactorwe estimated forEasternNorthPhiladelphia.ThissectionofthecitymanifestsacutelyhighlevelsofvacancythatrivalanyinPhiladelphia.

Where Do Data Suggest NSP Dollars Could Be Most Impactful? The answers to this question fall along a fewdimensions.First, a comparisonofNorthwestPhiladelphia neighborhoods (figures 2 and 3)tothoseinEasternNorthPhiladelphia(figures4and5)revealssimilarnumbersofforeclosures.However, a comparison of the vacancy levelsinthetwoareasrevealsthatinEasternNorthPhiladelphiaandthesurroundingcommunities

(figure5),vacanciesaresohighthatevenifNSPfundscouldtouchthemajorityoftheforeclo-sures,vacancyandabandonmentwouldremainathighlevels.Moreover,thenumberofvacantand foreclosed properties that would remainafterdepletionofNSPfundswouldbesogreatthattheultimategoaloftheprogram—marketstabilization—wouldbethwarted.

Ontheotherhand,inNorthwestPhiladelphia(figure 3), vacancy levels are sufficiently lowthat if vacant and foreclosed properties wereabated through strategic deployment of NSPfunds,themajorityofthearea’sadversemarketforceswouldberemoved,allowingthesecom-munities to flourish and achieve stability.ThePhiladelphiaMVArevealsahealthymarketinthe northwest section but a severely troubledmarketinEasternNorthPhiladelphia.Inshort,NSP funds will make the most impact wheninvestedinareaswhereobjectiveandsystematicdata show the housing market is function-ing reasonably well. That logic suggests thatdeploymentofNSPfundswouldhaveagreaterimpact inNorthwestPhiladelphiathanintheneighborhoodsofEasternNorthPhiladelphia.

Considerationofthetargetmarketanditssur-roundingareaiscriticaltothesuccessofNSPinvestment. A “deep dive” with limited NSPfunds into vast areas of multi-dimensionalmarket distress cannot be successful and willnot serve the intended purpose of neighbor-hood stabilization. By design of HUD andCongress, NSP funds must leverage otherfundingsources;inactuality,NSPdollarsmustbe invested to takeadvantageofothernearbymarket strengths. Targeting places where theproblem is manageable and the surroundingmarkets have strength is critical to success.Therefore,althoughworkinseverelydistressedmarketsisvitallyimportanttothefutureofourcities,NSPisnotthecorrectvehicletoaddresslarge-scaleblight inapropertymarket that isnototherwisefunctioningwell.

As Alan Mallach, a senior fellow at theBrookingsInstitution,aptlyputitinapresen-tation to a convening of the National VacantPropertiesCampaignin2008,“Neighborhood

By design, NSP funds must leverage other funding sources; in actuality, NSP dollars must be invested to take advantage of other nearby market strengths.


destabilizationisafunctionofmarketdeterio-ration or failure. Neighborhood stabilizationis a function of restoring a functioning, vitalmarket. NSP funds should be directed toward restoring well-functioning housing markets”[emphasisadded].14

ConclusionManyhavecalledfortheuseofobjectivedatatomakedecisionsaboutwhereandhowtodeployNSPfunds.TheMVAisonewayofcapturingacomprehensivesetofmarketdataaboutspe-cificplacesandtheirsurrounds.Itisatoolthathelpstoidentifywherethereisexistingmarketstrength upon which to build. And if repli-catedafter agivenperiodof time, it is a toolthatiscapableofshowingchangeinrelationtoNSPinvestments.

Some say that being data-based and strategicmust take a back seat to the realities of theREO market, and that NSP’s programmaticrequirementsfavorthequicknessofacommu-nity’sobligatingNSPfundsover the strategicinvestmentof those funds.15Thatargument isa formula for coming to the end of the NSPfunding cycle only to find that, while somepropertiesmayhavebeenaddressedwiththesefunds, communities have not been stabilized.WhileitisundoubtedlytruethatREOdepart-mentsaremoreinterestedinsellingpropertiesfor which they cannot otherwise find buyersto NSP recipients, municipalities—especiallyif they can avail themselves of the economiesofscaleaffordedby,forexample,theNationalCommunity Stabilization Trust—must useobjective data and strategically deploy thosefunds to the places where they can make thegreatestdifference.

NSP is an infusionof capital to communitiesthatmaynotoccuragain—atleastatthelevelsinHERAandARRA.NSP’ssuccessisdepen-dent upon ongoing data collection and theability to make mid-course corrections, basedon the analysis of those data, as the processunfolds. Fundamentally, its success relies onstrategicinvestmentsinareaswherethefundsarecommensurateinmagnitudetothedimen-sionsof theproblem.Althoughan“equitable”

distribution of funds across high-NSP-scoreareas has some appeal of practical and politi-cal ease, there is no community-based upsidetosprinklingthesefundsinsmalldosesacrossacity.

Ira Goldstein, PhD,isdirectorofpolicysolutionsatTheReinvestmentFund(TRF).Priortojoin-ingTRFin1999,hewasthemid-Atlanticdirectorof fair housing and equal opportunity for HUD.Dr. Goldstein serves on the Consumer AdvisoryCounciloftheFederalReserveBoard,theResearchAdvisory Board of the Center for ResponsibleLending, and the Governor of Pennsylvania’sHousing Advisory Committee. He is also aninstructorat theUniversity ofPennsylvania.HeholdsPhD,MA,andBAdegreesinsociologyfromTempleUniversity.

Endnotes1 HERA and ARRA are multifaceted acts of Congress

thatallocated fundsandcreatedprogramsandagenciesdesigned to assist homeowners having difficulty payingtheirmortgages.InadditiontoNSP1,HERAincludedGSEreformandFHAmodernization.ARRAwasmorebroad-basedthanHERAinitsattentiontovariouscom-ponentsoftheAmericaneconomy(suchasinfrastructureinvestments, communication technology, research, edu-cation,andhealthcare),inadditiontothehousingsector.

2 MoreonCDBGguidelinescanbefoundathttp://www.hud.gov/offices/cpd/communitydevelopment/programs/.

3 Thissimpleexampleassumesthatacquisitionisthepri-mary activity funded with NSP1 funds. The examplefurtherassumesthatnopost-acquisitionrepairs/upgradesare required.These costs, to the extent that they exist,willfurtherreducethenumber/percentofhomesNSP1couldaddress.

4 Statistics obtained from www.cityofboston.gov/dnd/PDFs/Distressed_Buildings_Report.pdf.

5 USPS data obtained from www.policymap.com; Phila-delphia’s NSP2 application may be found at www.phila.gov/ohcd/nsp/Philadelphia%20NSP2%20applica-tion%20final.pdf.

6 Seewww.huduser.org/nspgis/nspdatadesc.htmlforade-scriptionoftheHUDvacancyandforeclosureriskscores.

7 See www.foreclosure-response.org/maps_and_data/lisc_data.htmlforadescriptionoftheLISCriskscores.

8 See,forexample,http://static.baltimorehousing.org/pdf/nsp_amendedapplication.pdf (Baltimore,Md.)orwww.state.nj.us/dca/divisions/dhcr/offices/docs/nsp/nspac-tionplanfinal.pdf (New Jersey).Also seeAmandaShel-don,PhillipBush,AaronKearsley,andAnneGass,“TheChallengeofForeclosedProperties:AnAnalysisofStateand Local Plans to Use the Neighborhood Stabiliza-tionProgram”(Columbia,Md.:EnterpriseCommunityPartners, Inc., 2009) at www.enterprisecommunity.org/resources/publications_catalog/pdfs/nsp_2009.pdf.


9 TheReinvestmentFundpreparedMVAsforavarietyofcities,manyofwhichusedthemasthebasisfortargetingtheir NSP investments (in some cases, the cities’ statesused the MVAs for the same purpose). For example,PittsburghidentifiedasetoftargetmarketsbasedonitsMVAandrelatedforeclosure-densitydata(seewww.ura.org/pdfs/NSP-Presentation-Jan302009.pdf ).SanAnto-nioappliedasimilarstrategybyfirstidentifyingmarketsthatcouldbeinfluencedwithNSPfundsandthenaddingtheforeclosure-densitydimension(seewww.sanantonio.gov/gma/pdf/COSA_NSP2_Application-FINAL%2007.14.09.pdf ).Lastly,NewJersey,whereTRFcompletedanumberofMVAsindifferentpartsofthestate,requiredapplicants for the state’s allocationofNSPfunds to tietheir strategy to the MVA. TRF supported applicantsby preparing an instruction manual (see www.trfund.com/planning/NSP_NJ/njinstructionmanual.pdf ) andcounty-by-countymapsdepictingmarket typesandthedensityofREOwithin1,000-footsquares.

10TheReinvestmentFundpreparesmarketvalueanalysesformunicipalities, cities,andstatesaround thecountry.TheprocessrequiressomestatisticalandGISsophistica-tionalongwithsubstantialon-the-groundvalidationofresults. In every instance,TRF clients have made theirMVAspubliclyavailable.

11Eachlocalehasdifferentadministrativedata;thus,prox-iesforoneoranotheroftheindiciausedinthePhiladel-phiaMVAmustbeidentified.

12BecausethecityofPhiladelphiadidnothaveameasureofvacancythatwasconsideredsufficientlyreliable,TRFcreatedacompositefactorbaseduponseveralmeasures,

includingwatershut-offs,fiveormoreyearsoftaxdelin-quency,recentdemolitionofproperties,andvacantlots.

13See, for example, Vern Baxter and Mickey Lauria,“Residential Mortgage Foreclosure and NeighborhoodChange,” Housing Policy Debate 11(3): 675–699 (2000);DanImmergluckandGeoffSmith,“TheExternalCostsof Foreclosure:The Impact of Single-family MortgageForeclosuresonPropertyValues,”Housing Policy Debate 17(1):57–79(2006);DanImmergluckandGeoffSmith,“TheImpactofSingle-familyMortgageForeclosuresonNeighborhoodCrime,”Housing Studies 21(6):851–866;G. Thomas Kingsley, Robin Smith, and David Price,“TheImpactsofForeclosuresonFamiliesandCommu-nities” (Washington,D.C.:TheUrbanInstitute,2009);andMickeyLauriaandVernBaxter,“ResidentialMort-gageForeclosureandRacialTransitioninNewOrleans,”Urban Affairs Review34(6):757–786.

14Seewww.vacantproperties.org/resources/reports.html.15The collective wisdom of the Urban Land Institute’s

ShawForumin2009onthetopicofneighborhoodsta-bilizationisthatcommunitiesindeedfeelthepressureof“useitorloseit”withrespecttoobligatingNSPfunds;participantsconcludethatthiscannottakeabackseattoacomprehensive investmentstrategy. (Seewww.uli.org/CommunityBuilding/UrbanInitiatives/~/media/Com-munityBuilding/Urban%20Initiatives/Shaw%20Forum/shaw%206%20tenents2010%2020pg%20FF.ashx.)


Inevaluatinghowbesttomitigatetheimpactof foreclosed properties on communities,policymakers must understand the mortgageservicer’s role in managing and disposingof REO properties. What are the servicer’slegal and contractual obligations? What areits financial incentives? And what constraintsandchallengeshaveemergedasaresultofthedramaticincreaseinforeclosuressince2007?

Thisarticleshedssomelightonthesequestions,lookingprincipallyatservicersofprivate-labelsecuritizations of subprime and Alt-A loans,whichrepresentadisproportionatelylargeper-centageofforeclosuresandREOinventory.1

The Role of a Servicer in a Pooling and Servicing Agreement Theservicer’sresponsibilitiesinaprivate-labelsecuritizationaresetforthinapoolingandser-vicingagreement(PSA),2inwhichthetrusteeofthesecuritizationtrustthatholdsthemort-gageloanpoolforthebenefitofthecertificateholdersengagesaloanservicer.3ThePSAstip-ulatesthattheservicer’sresponsibilitiesincludecollectingpayments,escrowingtaxesandinsur-ance,andhandlinglossmitigation,foreclosure,andREOadministration.4

UnderaPSA,theservicer’smaincompensationis a fee representing a portion of the interestaccruing on the loans serviced, typically 50basis points per year for subprime mortgagesecuritizations and somewhat less for Alt-Asecuritizations.5 The servicer may also retaincertainancillaryfees,suchaslate-paymentandinsufficient-funds charges, and earn interestincomefromholdingtheproceedsofborrowers’

payments for an interim period, pending theservicer’smonthlyremittanceofcollections tothetrustee.

The servicer’s expenses consist of operatingexpenses and the interest expense relating tofundstheservicerisobligatedtoadvancetothetrustee.Operatingexpensesincludeofficespace,hardwareandsoftwaresystems,employeecom-pensation, and the feesof specialized vendorsandserviceproviders,aswellthecostofmain-taining appropriate licensure, compliance, andrelatedcontrols.

Theservicerisalsoresponsibleforremittingtothetrusteethescheduledprincipalandinterest(P&I) advances and paying certain out-of-pocketcostsrelatingtokeyservicingfunctions(servicing advances). Servicing advances canincludepayinga local attorney toprosecute aforeclosure; hiring an appraiser to update thevaluation of a property; paying to secure andmaintainavacantproperty;payingdelinquentpropertytaxes;andprocuringsubstituteinsur-ance when a homeowner allows coverage tolapse.6Theservicerisentitledtorecoupallout-standing P&I and servicing advances relatingtoamortgagefromtheultimateproceedsoftheproperty’sliquidationortheloan’sprepayment.7

However,becausetheadvancesonaloanmightremainoutstandingandgrowformanymonths,servicersmayincursignificantinterestexpensesattributable to the credit facilities or otherfundingsourcesfortheadvances.Atanygiventime,servicersmayhaveuptotensorhundredsofmillionsofdollarsofadvancesoutstanding.8

Servicing REO Properties: The Servicer’s Role and Incentives

by Stergios TheologidesCoreLogic


There is an important exception to a ser-vicer’sobligations tomakeP&Iand servicingadvances: If a servicer determines that theaggregate proceeds from pursuing foreclo-sure and liquidation of a particular propertywill not cover any additional advances—a so-called“non-recoverabilitydetermination”—theservicer is absolvedof theobligation tomakeadditionaladvancesrelatingtothatloan.

Servicers regularly evaluate delinquent loansin their servicing portfolio in order to deter-minewhether ornot continuing advances arerequired.Indistressedmarketswithlongfore-closureandREOtimelines,significantdeferredmaintenance and code violation remediation,and very low resale prices, it is not uncom-monforservicerstoconcludethatfutureP&Iadvanceswouldnotberecoverablefromthenetliquidationproceeds.

Servicer compensation, it should be noted, isnot tied directly to recoveries or results fromservicing specific loans. Rather, the compen-sation is pool-based. Accordingly, as long asthe servicer is fulfilling its basic obligation toservice in accordance with the PSA, there isonly a weak direct financial incentive for theservicer to spend incremental, extraordinarytimeandexpenseonachievingasuperiorresultonaloan.9Sincerevenuesareessentiallyfixed,the servicer’s incentive is tokeepcosts as lowaspossible.Tobesure,aservicer’scostislow-est and its profit margin highest on currentloansthatrequireonlytheprocessingoftimelymonthly payments. However, once a loan isdelinquent, there is no extraordinary rewardthatwouldjustifyexceptionaleffortstoreturnthe loan to current status or achieve a lower-than-anticipatedloss.10

Likewise,becausetheservicerrecoverscertainthird-party expenses as servicing advances,thereisafinancialincentivetooutsourcethosefunctions to the extent practicable, ratherthan build them in-house. For example, if anin-house attorney prosecutes a foreclosure,that attorney’s salary is not recoverable asa servicing advance. However, the out-of-pocket expenses a servicer incurs to engage a

local attorney to foreclose on a property aretypicallyreimbursable.REO Properties, Servicers, and PSAsPSAsaregenerallystructuredtoincludeabroadgrantofauthoritytotheservicer,governedbysome overarching principles, combined withmorespecificdelegationsofauthority relatingtoparticulartasks.

Thebroadgranttypicallyincludes• Delegationtotheserviceroftheauthorityto

“serviceandadminister”theloans• Arequirementthatservicingbeperformedin

amanner that is either in thebest interestsofthetrust-certificateholdersordesignedtomaximizethereceiptofprincipalandinterestwithrespecttotheloans

• An additional qualification that servicingbe performed in accordance with “acceptedservicing practices” or consistent withprudentmortgageservicers’administrationofsimilarmortgageloans

• Aqualification that the servicing shouldbeperformed in themanner inwhich the ser-vicer administers similar mortgage loansfor its own portfolio and without regard topotentially conflicting interests, such as theservicer’s relationship with the mortgagoror the servicer’s obligation to make P&I orservicingadvances.11

The broad grant is qualified by more specificdirections on how particular servicing-relatedtasksareperformedandbyrestrictionsonwhattheservicermaydo.12Thetwomostsalientpro-visionsforREOpropertiesarethePSAsectionsaddressingrealizationupondefaultedmortgageloans and those addressing the title, manage-ment,anddispositionofREOproperties.

The“realizationupondefaultedmortgageloans”provision authorizes the servicer to foreclosewhenitreasonablybelievesthatdoingsowouldmaximizethetrust’sproceeds;theservicermayalsorecoupasservicingadvancescertainthird-party expenses incurred in connection withtheforeclosure.13

Once a loan is delinquent, there

is no extraordinary reward that would justify exceptional

efforts to return the loan to

current status.


The “title, management, and disposition ofREO”sectionofthePSAtypically• Directs the servicer to manage, conserve,

protect, andoperate eachREOwith a viewto liquidating it as soon as is practicable,but no later than the end of the third yearfollowingtheyearinwhichtitleistaken(ataxrequirement)

• DirectstheservicerinwhatnametotaketitletotheREO

• PermitstheservicertodisposeoftheREOorrentitforaperiodoftime,subjecttopreserv-ingthetrust’staxtreatment

• Allows the servicer to recoup as servicingadvances certain out-of-pocket expenses ofmanaging and disposing of the REO; thislast point is important because servicersmust inevitably rely on local contractors toinspect, appraise, secure, maintain, and sellREOproperties.

AftertakingtitletoREOonbehalfofthetrust,the servicer continues to be responsible formakingP&Iadvances,unlessithasdeterminedthatsuchadvancesarenon-recoverable.

Some PSAs permit as a recoverable servic-ing advance the costs of a professional REOmanagementfirm,therebyincentingaservicerto outsource its entire REO function to sucha firm and avoid the incremental overheadexpenses of an internal REO department.14Even when an REO management firm’s feesare not a recoverable servicing advance, manyservicers find it more efficient to outsourcesomeoralloftheirREOfunctiontoregionalornationalREOmanagementfirms.Becausesuchfirmsspreadtheiroverheadoveralargervolumeof REOs, which they manage for several dif-ferentservicers,theytendtohavemorerefinedandefficientsystems,processes,andtechnologythansmallerservicers.

The REO Management ProcessTheservicingofREOpropertyisgovernednotonlybythespecificcontractualrequirementsofthe PSA, but also by the broader standard of“accepted servicing practices” and the require-mentsof local lawsandregulations.TheREOmanagement process typically falls into three

phases, each of which relies on local serviceproviderssuchaslocalrealestateagentsfor• securingandassessingtheproperty• developingamarketingstrategyfortheproperty• executingthestrategyfromsaletoclosing.

Immediatelyaftercompletingaforeclosure,theservicer secures the property, typically by re-keying the locks if the property is vacant andmakingemergencyrepairs toavoiddamagetoor deterioration of the property. The serviceralsocompletesanyrequiredregistration.

For occupied properties, the servicer evaluatestheoccupants’intentionsandmayofferamod-estcashpaymenttoinducethetenantorpriorownertovacate.Ifthepropertyisoccupiedbya bona fide tenant, federal law requires thattheservicerpermitthetenanttoremainintheproperty,atfairmarketrent,fortheremainingtermoftheirlease.

If the occupants are not willing to vacate theproperty or accept an offer for renting it, theservicerbegins theevictionprocess.Generally,inthecourseoftheforeclosure,theservicerwillhaveperformedat leastanexternal inspectionofthepropertyandmayhaveasenseofitscon-ditionpriortotakingtitle.

Aftertakingtitleandsecuringtheproperty,theservicerdevelopsamarketingstrategy.Onthebasisofanappraisalorabroker’spriceopinion,theservicerestimatesthelikelysalespriceandanticipated net proceeds of the property. Theserviceralsodetermineswhetherthereareanytitledefectsthatcouldimpedeasale.

A more thorough inspection of the propertyhelpstheservicerdetermineitsvalueandcondi-tionaswellasestablishwhetherthepropertyisinaconditionsuitableforapurchaserdependentonFHAfinancing.Ifrepairsareneeded,theser-vicerobtainsbidsandengagescontractors.

One factor influencing the servicer’s repairdecisionsiswhethertherewillbesufficientpro-ceeds torecover therepaircostsasa servicingadvance.IftheP&Iandservicingadvancesthataccruedduringforeclosure—andthoselikelyto


beincurredduringtheREOandsaleprocess—exceed the expected liquidation proceeds sothatthereprobablywillnotbeanynetproceeds,the servicer is likely to make more limitedrepairsorseektosellthepropertyquicklytoaninvestorasis.15

Iffurtheradvancesarelikelytoberecoverable,theservicerthenexecutesthemarketingstrat-egybyoverseeingnecessaryordesiredrepairs;engagingalistingbroker;establishingalistingprice;ensuringthatanydelinquenttaxes,HOAfees, or similar assessments have been paid;and,ifsomeofthepropertydamageisinsuredunderthehomeowner’spolicy,pursuinginsur-ance claims.When it receives a suitableoffer,theservicerwillacceptitandthenoverseetheclosing,receiptofproceeds,andtransferoftitle.

Less commonly, the servicer elects to pursuean alternative disposition strategy, such as anauction or a bulk sale, particularly for prop-ertiesindecliningmarketssaturatedwithsuchproperties,wheretraditionalsalesmethodstakelongertocompleteandwouldlikelyexacerbatethetrust’sloss.

WhilethebasicelementsoftheREOmanage-ment process tend to be consistent, servicershavevaryingdegreesofauthority.Forexample,insomeinstances,aninvestororbondinsurerwillrequireapprovalsfordecisionsthatfallout-sidenarrowgrantsofauthority.

Industry Measures of Servicer EffectivenessTwo categories of industry metrics gaugeservicer effectiveness in REO administration:timelinessandnetvalue,orproceeds.

Timeliness measures evaluate how quicklyand steadily REO properties move throughtheprocess.Onaportfoliolevel,servicersandindustry participants such as ratings agen-ciesmeasurethetotal inventory“turn”rateona month-to-month basis—that is, the num-berofpropertyclosingsasapercentageofthenumberofREOsininventoryatthebeginningof the period. They also evaluate the average

durationinREOinventoryandtheaveragetimeinvariousstagesoftheREOprocesstodeter-minetrends.

Thesecondmetricisameasureofproceeds—not in absolute terms but in comparison tothe expected sales price developed when titlewas taken. Servicers strive for accuracy andpredictability. Industry participants scruti-nize thedegree towhich theactualoutcomesof REO transactions deviate significantlyfrom the expectations that drove the initialREOstrategy.

Challenges Spurred by the Housing CrisisThe dramatic rise in foreclosures since 2007hasplacedadditional stressonstandardREOmanagement processes, increasing the costs,complexity, and risk to servicers. Like thehousing finance industry, the servicing indus-tryhashadtoadjust to thesechallenges.Thissection examines some of the challenges,theireffectonservicers,andhowtheindustryhasresponded.

Declining home values. Broad and relativelyrapid home value declines since 2007 forcedservicers to scrutinize and adjust their mar-ketingstrategiesmorecarefully.Apropertyonthemarketforseveralmonthsmightdeclineinvalueandrequiresuccessivepricedropsduringthatperiod.

In calculating the value of an REO property,servicers and local real estate listing agentsincreasingly employ more robust automatedtoolstoassessfactorsthat influencetheREOsale strategy, suchasother foreclosures,nega-tive equity, and owner occupancy rates in theimmediateneighborhood.

Over time,servicershaveadjustedtheirmod-els to accommodate selling properties quicklyrather than holding onto potentially wastingassets.Attimesthismaymeansellingtoacashinvestor immediately,ata slightly lowerprice,instead of waiting for a prospective owner-occupanttoreceivefinancingforthepurchase.


Tighter credit standards.Thesignificanttight-eningofunderwritingstandardshaslimitedthefundingavailabletopurchasersofREOproper-ties,especiallyfirst-timehomebuyers.Althoughthe FHA has partly filled the gap, it is ham-peredbymorestringentcollateralrequirementsthatmayrequiresubstantialrepairstomakeaproperty eligible for such financing. In orderto increase the likelihood that apropertywillqualifyforanFHAloan,someservicers,imme-diatelyaftertakingtitle,improvepropertiestoalevelthatwouldpassanFHAinspection.Thatfact isevennoted insome listings inorder toattractpotentialbuyers.

On the other hand, in some situations thesubstantial costs and time necessary to makea property FHA-eligible drives a servicer tofocusonaquick,“asis”saletoaninvestorasthebestoutcomeforthetrust.

Vacant property registration requirements and code enforcement. Many local governments,concerned about the increasing number ofvacant homes, have passed registration ordi-nancesthatallowthemtotrackwhichhomeshavebecomevacant.16Likewise,codeenforce-ment officials and homeowners’ associationshavebecomemoreaggressiveinpursuingser-vicersforrepairsandmaintenance.Evenwhenaservicerbelievesthatallegationsofthepriorowner’s infractions are without merit, it issometimescheapersimplytomaketherequiredrepairs. Longer foreclosure timelines alsoincrease the likelihood that REO propertieswillbeingreaterdisrepairwhentitleistaken.

Servicershaveadjustedtheirmodelstoreflectthesehigherexpectedcosts; theiradjustmentsinfluencethetimingandpriceofthesaleandwhether it might be preferable to arrange ashort sale or adopt a bidding strategy thatwould allow the property to be purchased atauctionbyathirdparty,ratherthanbytheser-viceronbehalfofthetrust.

Heightened tenant protections. Policymakershave become increasingly concerned aboutreports of tenants in foreclosed homes facing

eviction. Likewise, the proliferation of vacantproperties has placed a premium on keepingdistressed properties occupied to mitigate thepotential negative neighborhood impact ofanothervacantproperty.

In May 2009, the Protecting Tenants atForeclosure Act became law, obliging thesuccessor-in-interesttoaforeclosedpropertytopermittenantswithbonafideleasestoremaininREOpropertyonmarkettermsandrequir-ing longernoticeperiods to tenants to vacatethe property. Some states have also adoptedlongernoticerequirementsandadditionalpro-tections for tenants in foreclosed properties.17

Accordingly,theGSEsandservicershavehadtodevelopthecapability,internallyorthroughvendors,tomanagetherentalprocessaswellasotherrequirementsofthelegaldirectives.

Despite these added protections, anecdotalreportsfromservicersindicatethatmosttenantselectnottopursuetheleaseoption,preferringtoacceptfinancialinducementtorelocate.

In some jurisdictions, tenant advocates havebecamemoreaggressive inpursuingstrategiestopermittenantstoforestallevictionorcom-mandahigherinducementpricetovacatetheproperty.Servicersinthosejurisdictionsfinditincreasinglydifficulttofulfill theirobligationstomaximizeproceedsforthetrust.Untiltheytake title, servicers have very limited author-ity and ability to perform a robust inspectiontodeterminewhetherornotthecurrentowneris adhering to applicable rental-housing laws.Once the servicer takes title on behalf of thetrust, advocates for the tenants may pursuecourt action to require repairs and financialcompensationforthetenantsthatmayresultinsubstantialadditionallossesforthetrust.

In a troubling development, some servicersreportfraudschemesinwhichindividualswhoarenotbonafidetenantsofaforeclosedprop-ertymoveinduringtheforeclosureprocessandusetheselawsandprotectionstoextractmon-etarysettlements.

Most tenants elect not to pursue the lease option, preferring to accept financial inducement to relocate.


Efforts to make properties available for nonprofits and local governments.Localgov-ernments and nonprofits have reacted to theincrease in REO, foreclosed, and abandonedpropertiesbyseekingwaystooffsetthenegativelocal impact.The Neighborhood StabilizationProgram,createdbyfederallegislationin2008and expanded in 2009,18 provides funding tostabilize communities thathave suffered fromforeclosures and abandonment. OrganizationssuchastheNationalCommunityStabilizationTrust and the REO Clearinghouse also helplocal organizations purchase or receive con-tributions of REO property from servicers.Servicers participating in the Trust agree toprovide a “first look” to local organizationsinterestedinpurchasingREOthatmeetspeci-fiedcriteriaincertainmarkets.

Although these programs have experi-enced modest success, the volumes ofpropertiescomingtomarketeachmonththatmeetthedesignatedgeographicandothercri-teria established by participating nonprofitsand community-based organizations are stillquite small compared to the total number ofREOtransactionsinagivenmonth.Also,therearepersistentoperationalchallengestorecon-cile the often-longer timelines of nonprofitsthathavefunding,governance,andchartercon-straintswithservicers’strongdesiretodisposeofREOsquickly.

Extended foreclosure timelines. Foreclosuremoratoria, loanmodificationprograms,courts’administrativebacklogs,andlegislativechangesto the foreclosure process (such as additionalnotice periods and mandatory mediation),whilewellmeaning,haveneverthelessincreasedthe“shadowinventory”ofpropertiessuspendedinvariousstagesof foreclosure.19Atthesametime, the number of properties in REO hasactually declined as capacity expansion, bothinternally and through theuseofREOman-agementfirms,hashelpedservicerstocompletesales more quickly than new REO propertiescomein.

Because of the longer foreclosure timelines,moreadvanceshaveaccruedthatwillultimately

offsetanyliquidationproceeds.Inordertomit-igate the advances and accelerate thedisposalprocess,servicersarebecomingmoreaggressiveaboutshortsalesandthird-partysalesatfore-closureauction.Fundsthatcouldbeusedmoreproductively to maintain or repair a propertyonce it reaches REO have increasingly beenexhaustedthroughthelongerforeclosuretime-lineandP&Iadvancingburden.

The “toxic title” phenomenon. In some mar-kets with high foreclosure rates, low propertyvalues,andaginghousingstock,servicershavestarted to suspend the foreclosure processonahomerather thanpursue it toREOandliquidation. This phenomenon is sometimesreferredtoas“toxictitle”—theownerofrecordhas abandoned the property and may believethe foreclosure has been completed, but thelien-holder has not yet taken title. In mostjurisdictions, code enforcement has very lim-itedabilitytopursuealien-holder;atthesametime,theownerwhohasvacatedthepropertyiseitherunreachableorisunwillingorunabletomaketherepairsorpayfines.20

Although this practice is uncommon in mostmarkets, in certain of the hardest-hit mar-kets servicers will increasingly find that theirobligations to the trust tomaximizeproceeds(or minimize losses) might require them toabandon foreclosure and walk away from theproperty.Someservicerselecttoreleasethelieninsuchacase.

Whetherornotthelienisreleased,iftheownerof record is unaware that the foreclosure hasbeen abandoned, or if the owner is unwillingorunabletoengagewithlocalauthoritieswithrespect to taxes, code issues, or the potentialtransfer of the property, efforts to address thepropertywillbehampered.Oneresponsetothisphenomenon is to broaden vacant-propertyordinances so that registration and mainte-nance obligations extend to lien-holders ofvacantpropertiesindefault.21

The expansion of the lien-holder’s obliga-tion troubles mortgage investors and theirservicers. Investors understand that they bear


the risk of total loss of their investment in aparticular mortgage. However, they considerit inequitable to compound their loss by alsomakingthemliableforcodeviolations,unpaidtaxes, delinquent homeowner associationobligations, landlord-tenant issues, or otherproperty-related obligations of the defaultingpropertyowner.

Servicers face legal and practical constraintsonaccessingandrepairingapropertythattheborrower still owns. On the other hand, theyfacereputationalrisksrelatingtobeingidenti-fiedwitha“toxictitle”orabandonedproperty.Inaddition,even if legislativechangesexpanda servicer’s right to access and alter a vacantpropertyduringthe foreclosureprocess,doingsowouldpotentiallybreachtheservicer’sobli-gation to the trust if the servicer reasonablybelievedthatsuchrepairswouldconstitutenon-recoverable advances. As policymakers striveto reachbackearlier in theprocess to imposeon lien-holders certain obligations for codeviolation remediation and general repairs andupkeep,thoseeffortswillmerelyforceservicerstodecideearlierwhetherornottoproceedwithforeclosure. Once the servicer concludes thattheexpensesofupkeepand repairwillnotberecoverable, it may be precluded contractuallyfrommakingthoserepairs.

ConclusionAlthough there are no clear transformationalpolicyorcommunityapproachestoaddressingthechallengesofREOproperties,afewincre-mentalstepsareworthyoffurtherexplorationtomitigatetheimpactREOpropertieshaveoncommunities.

First,when aproperty is vacantorwhen it isclear thatno foreclosurealternativesare likelytosucceedwithagivenborrower,policymea-suresthatcanstreamlinetheforeclosureprocessaremorelikelytoleavefundsavailablefortheservicertomakecodeimprovements,dorepairs,paytaxes,andlistanddisposeofthepropertyinanorderlyfashion.Fundsdepletedthroughdrawn-out periods of making P&I advancescouldbeutilizedmoreconstructivelyinfacili-tating an orderly sale of a code-compliant

propertytoanowner-occupantorcommunity-basedorganization.

Second,althoughtherewillcontinuetobesitu-ationswhereaservicermustcontractuallyforgoforeclosure, under certain circumstances therecould be requirements, for lien release and/orenhancedefforts,tonotifythetitleholderthatforeclosure is not being pursued. This wouldincreasethelikelihoodthatowner-occupantsortenantswillstayincaseswheretheservicerdoesnotintendtotaketitle.

Third, commercially available information cangivecommunity-basedorganizationsandlocalgovernmentsmore insightconcerningproper-tiesthatarelikelytobeinREOwithinsix,12,or18months,orthatareatriskofendingupwithtoxictitles.Whenrecordsoftaxpayments,delinquency status,ownership, lien status, andsimilar data are combined with informationonvaluation,negativeequity,andneighboringproperties, they can provide earlier warningsto allow community-based organizations andlocal governments to engage with servicersanddevelopneighborhood-orevenproperty-specificstrategies.

Finally,inordertoreducethenumberoftoxictitles,policymakersshouldexploretheprospectof allowing a servicer or investor who wouldnormally forgo pursuing foreclosure due tonon-recoverability of code-violation reme-diationorbacktaxestotaketitlenevertheless,providedthereisaninstantaneouscontributionof title “as is” to a local government or non-profit. If investors who have lost their entiremortgage investment (or the servicers actingon their behalf ) know that they will not befurtherburdenedbyobligationsforcodereme-diation,theymaybemorewillingtotaketitleand transfer the property to a government ornonprofit entity that will be able to beginmovingthepropertybackintoproductiveuse.

Funds that could be used moreproductively to maintain or repair a property once it reaches REO have increasingly been exhausted through the longer foreclosure timeline and P&I advancing burden.


6 A representative 2007 subprime PSA defines servicingadvances as “[a]ll customary, reasonable, and necessary‘outofpocket’ costs andexpenses (including reasonableattorneys’feesandexpenses) incurredbytheServicer intheperformanceofitsservicingobligations,including…(i)thepreservation,restoration,inspectionandprotectionof the Mortgaged Property, (ii) any enforcement or ju-dicialproceedings, including foreclosures, (iii) theman-agement and liquidationof theREOProperty, and (iv)compliancewiththeobligationsunder[sectionsrelatingtotaxes,insurance,recordingofreleasesandotherout-of-pocketexpenses]”(OptionOne2007-6PSA).

7 Iftheproceedsofliquidatingtheloancannotcompletelyreimbursetheservicerforaccumulatedadvancesonthatloan, the servicer may reimburse itself from collectionsandprepaymentsonotherloansinthepool.

8 For smaller, independent servicers, this advancing obli-gationismorethanasignificantinterestexpense; itcanstrainaservicer’s liquidity.Infact,ratingsagenciescon-sideraservicer’sabilitytofulfilladvancingobligationsasanimportantfactorinratingit.

9 Ratingsagencies, issuers, and investors track theoveralleffectiveness of servicers.Typically, they compare a ser-vicer’sperformancetotheresultsofservicersofloansofsimilar characteristics and vintages. Achieving better-than-averageresultsincreasesaservicer’schancesofbeingselectedforfuturepools.

10PSAs’compensationstructureisverydifferentfromthatusedbyinvestorsinpoolsofdistressedmortgagestoin-centspecialservicerstomaximizerecovery.Specialservic-ingagreementsarecustomizedto induceaperformanceconsistent with the investor’s objectives. For example,servicersmaygetextrapaymentforsuccessfulshortsales,deedsinlieu,orotherloss-mitigationmeasures.Theymayalso receive bonuses for keeping aggregate losses belowprojectedlevels.

11For a representative formulation of the broad del-egation of authority, see www.sec.gov/Archives/edgar/data/1365364/000119312506141969/dex101.htm.SeealsoOptionOne,citedabove.

12Somerestrictionsexisttogivecertificateholdersthede-siredtaxtreatmentofthetrust.Othersempowercertainstakeholders to approve specific measures. For example,in securitizations where certificates are credit-enhancedbyabondinsurer,modificationsorshortsalescommonlyrequiretheinsurer’spriorapproval.

13See, for example, www.sec.gov/Archives/edgar/data/1372671/000114420406043873/v055673_ex4-1.htm.

14In some more recent transactions, REO managementfirms’feesarenotrecoverableasservicingadvances.Someindustry participants perceive the REO managementfunction(managementandoversightoflocalvendorswhohandleREOpreservationanddispositionfunctions)asaninternalexpense thata servicer shouldbearasageneraloperatingexpense.SeeOptionOne,citedabove.

15Infact,iftheproceedsareunlikelytocoveraccruedP&Iandservicingadvances,theservicermightnoteventaketitletotheREO,preferringtopursueanalternativestrat-egy such as a short sale or a lower bid at auction thatmight allow a third-party bidder to prevail. This is an

Stergios “Terry” Theologides is senior vicepresident and general counsel for CoreLogic, aprovider of consumer, financial, and propertyinformation, analytics, and services to businessand government. Before joining CoreLogic, hewas general counsel of Morgan Stanley’s U.S.residential mortgage businesses; he was also gen-eral counsel of mortgage originator and servicerNew Century Financial Corporation. A formermemberoftheFederalReserveBoard’sConsumerAdvisoryCouncil,Theologides servedonadvisorycouncils for studies sponsored by Harvard’s JointCenter for Housing Studies. He received his lawdegree from Columbia University and his bach-elor’sdegreefromPrincetonUniversity.

Endnotes1 CoreLogic data for REO properties in January 2010

showthatslightlyover50percentoffirstliensinREOstatus came from subprime or Alt-A mortgages. Al-thoughprimeorconformingloansrepresentamuchlarg-erproportionofmortgagesoutstanding,theyareunder-representedrelativetosubprimeandAlt-AloansamongdelinquentandREOproperties.Moreover,GSEscontroltheirownREOdisposition,whereassubprimeandAlt-AREOaretypicallydispersedamongandcontrolledbyamuchlargernumberofservicers.

2 Sometimesthisagreement iscalledasaleandservicingagreementandsometimesittakestheformofanassign-ment,assumption,andreconstitutionagreementthatre-constitutesanexistingservicingagreement.

3 Inasecuritizationtransaction,thetrusteeholdstheloansintrustfortheownersofthecertificatesorsecuritiesthatrepresenttheownershipinterestsinthetrust.Forabasic(althoughslightlydated)overviewofassetsecuritization,seeAssetSecuritization,Comptroller’sHandbook1997available at www.occ.treas.gov/handbook/assetsec.pdf( July2010).

4 SomePSAsdivideservicingresponsibilityamongamas-ter servicer,a servicer,and/oroneormore subservicers.Thisdivisionofresponsibilitytypicallyreflectsadesireddivision of economic interests or specialization that re-sults in carving up the servicer’s role between two ormore parties. In a large pool with multiple servicers, amasterserviceristypicallyresponsibleforaggregatingallmonthly remittance reports and determining the pool’saggregateresults.

5 Insometransactions,theinitialpricingislower,andthenstepsupasthepoolseasons.Thismorecloselyreplicatesthecosttoservicethatincreasesovertimeasapercentageof theremainingpoolbalance for tworeasons:First,asthepoolsizedecreases(dueprincipallytoprepayments),thefixedcostsofservicingarespreadoverasmallerpoolbalance; second, thedelinquency levelof the remainingloansincreasesasthepoolseasonsandsomecurrentloansrefinanceandarepaidoff.


important area in which the interests of local govern-mentsandnonprofitsdivergefromthecontractualobli-gationsofservicers.Ifaservicerreasonablybelievesfuturerepairs,maintenance,andimprovementswouldbe“non-recoverable”advances,itwouldarguablybebreachingitsPSAobligationsifitweretoincurthoseexpensesratherthanexecutearapid“asis”saleorevenavoidtakingtitle.

16Foralistofvacantpropertyordinances,seehttp://www.safeguardproperties.com/vpr/city.php.

17For example, Illinois HB 3863, which became effec-tive in November 2009, amends certain foreclosure-noticelanguagetogivetenantsmoreinformationabouttheirrights.

18SeetheHousingandEconomicRecoveryActof2008andtheAmericanRecoveryandReinvestmentActof2009.

19CoreLogicestimatedthattherewasapendingsupplyof1.7millionresidentialpropertiesasofSeptember2009,up from 1.1 million a year earlier.This includes REOproperties, pending foreclosures, and properties with

mortgages more than 90 days past due. Normally, this“shadow inventory” would not be included in officialmeasuresofunsoldhousinginventory.

20Professor Kermit Lind describes this phenomenon in“ThePerfectStorm:AnEyewitnessReportfromGroundZeroinCleveland’sNeighborhoods,”Journal of Affordable Housing 17(3): 237–258 (2008). For local governments’code-enforcement challenges with respect to propertiesabandoned during the foreclosure process, see JosephSchilling’s “Code Enforcement and Community Stabi-lization:TheForgottenFirstResponderstoVacantandForeclosedProperties,”Albany Government Law Review 2:101–162(2009).

21For example, see Miami–Dade County, Florida,OrdinanceNo.08-134,adoptedDecember2,2008;andNewHaven,Connecticut,OrdinanceNo.1583,adoptedJanuary22,2009.


Section II: Solutions

Strategies for Dealing with REO and Vacant Properties


Motivatedbyagrowing senseofurgencyandaidedbybillionsofdollarsinfederalaid,hun-dreds of communities across the nation havebeenworking formore thanayear to reclaimneighborhoods hard hit by foreclosures andabandonment. To date, almost $6 billion infederal Neighborhood Stabilization Program(NSP)1 funding has been made available toselect communities to stem the steady dete-rioration of property values and communityconfidence.

One key to the success of local stabilizationefforts is acquiring foreclosed and abandonedreal-estate-owned (REO) properties in a pre-dictable,timely,andconcentratedbasis.Todate,acquisitionof suchpropertyhasbeenthepri-mary use of NSP funding. Founded in 2008,the National Community Stabilization Trust(NCST) was established specifically to helpfacilitate the transfer of foreclosed and aban-doned properties from financial institutionsnationwide to local housing organizations, topromotetheproductivereuseoftheseproper-tiesaswellasneighborhoodstability.

TheTrust,sponsoredbysixnationalnonprofitorganizationsknownfor their innovation,wascreated to build local capacity to effectivelyacquire,manage,rehabilitate,andsellforeclosedproperty, to ensure that homeownership andrentalhousingareavailable to low-andmod-erate-incomefamilies.2Throughthepromotionandfacilitationofpublic–privatecollaborations,theTrust seeks specifically to leverage federalNSPfundingtoensurethatthesedollarshavemaximumimpact.

Despite the efforts of theTrust and scores ofstate and local communitydevelopmentprac-titioners, however, progress in revitalizingneighborhoods remains slow and fragmented.What happened? Why has progress towardneighborhoodstabilitybeensoslow?Andwhatcanpolicymakersandhousingprovidersdotoacceleratelocalstabilizationefforts?

Thisarticle• assessesprimaryreasonsforNSP’sslowstart,• discusses some of the lessons learned by

NCSTand itspartnersduring thefirstyearoftheTrust’soperation,and

•offers ideas for more efficient and scalablepropertyacquisitiontohelpcommunitiesgaina better foothold against the rising tide ofpropertyforeclosuresandabandonment.

A Slow Start to Stabilizing Neighborhoods Newnationalhousinginitiativestypicallystartslowly. In fact, slow startshaveblemished thefirstyearsofsingle-familyandmultifamilypro-grams alike, including the HOME Program,LowIncomeHousingTaxCredits,andHopeVI.Andyet,NSPwasparticularlysloth-likeinitsfirstyear,whileforeclosuresinhardhitmar-ketscontinuedtogrow.ByMarch2010,afullyearafterNSPfundingwasprovidedtomorethan300stateandlocalgrantees,lessthanhalfofallfundswereobligated,andonly25percentoffundingwasactuallyexpended.

These slow starts can nevertheless proveinstructive. Lessons learned in the first yearof a high-profile housing initiative can paydividends in ensuring that future efforts are

Acquiring Property for Neighborhood Stabilization:Lessons Learned from the Front Lines

by Craig NickersonNational Community Stabilization Trust


moreproductive.With that inmind,weofferthefollowingfourprimarycausesoftheNSP’sslowstart:

Lack of buyer and seller capacity and skills. Acquiring, renovating, and subsequently dis-posing of large numbers of abandoned anddeteriorated properties in a highly targetedgeographic setting requires a level of plan-ning, collaboration, and choreography that inmany instances was not in place when NSPfundsinitiallybecameavailablein2009.ManyNSP grantees and their participating hous-ing providers lacked the REO transactionalexpertise, development infrastructure, asset-management and land-banking skills, andcomprehensiveplanningnecessary for success.Financial institutions found themselves in asimilarly challenging situation. Institutionsholding large inventories of REO propertieswerefacedwithamultitudeofoperationalandleadershipchallengesastheymanagedunprec-edentedcaseloads,builtnewtechnologies,andoverhauledservicingandREO-processingsys-tems.They sought tobe responsive to sociallymotivatedbuyerswhoinsistedonrevisedpur-chaseagreements, foreignpurchaseconditionssuch as environmental requirements, and fed-erally mandated property-purchase discounts.Moreover, financial institutions had to bal-ancetheirinterestinsellingtomotivatedNSPbuyers with their obligation to gain adequatefinancialreturnsforinvestors.

Changing NSP requirements. The UnitedStates Department of Housing and UrbanDevelopment (HUD), which administersNSP, has responsibility for issuing require-mentsrelatedtothepurchaseofforeclosedandabandoned property with NSP funds. Theserequirements underwent a steady stream ofrevisions from October 2008 through March2010, causing hesitancy on the part of somestate and local grantees to start using funds.While many of these changes—to provisionsregarding discount levels, tenant protections,3environmental reviews, purchase agreements,the Uniform Relocation Act,4 proper selec-tion of sub-recipients and developers, and

definitions of key terms—were warranted,they have also prompted considerable granteecautionanddelays.

Competition from investors. Traditionalmom-and-pop buyers and local property investorscan be contributors to community solutions,even encouraged as partners in public effortstosupplementNSPinvestmentsbybuyingandrenovatingpropertiesinthetargetmarketsofacommunity’sNSPplans.Moretroublingtolocalhousingprovidershasbeenthegrowingnum-berofwell-capitalized,out-of-state,andnewlyformed investor pools scooping up low-valueREO properties, particularly in NSP targetmarkets.Manyoftheseinvestorsaremotivatedbytheprospectofafast“flip”oftheproperties,undertakingonlyminimalinterimrenovationssothepropertiescanberentedtogeneratecashflowuntilsale.Investors’readyaccesstocashforclosingandtheircloserelationshipswithsomefinancialinstitutions’REObrokersexacerbatesthechallengeofaggregatingtherightpropertyassetsformarketrejuvenation.

Lack of REO inventory. In June 2010, theinventoriesoflargefinancialinstitutionssuchasBankofAmerica,Chase,andWellsFargohaddropped to 35–40 percent of their inventoriesfromJune2009.Thissignificantdeclinecaughtmanyintheindustrybysurprise,evenasmort-gagedefaultandforeclosurefilinglevelsinthesametimeperiodincreasedmonthovermonth.

Where did the REO inventory go?There aremany reasons for the reduction in inventory,mostnotably:• The “anything but REO” mindset.

Increasingly over the past year, distressedservicershaveadoptedthemantra“anythingbutREO”;virtuallyanyalternativeisprefer-abletothecostanduncertaintyofgeneratingadditional REOs, including short sales anddeeds in lieu of foreclosure.The foreclosureprocess is expensive for servicers and inves-tors: The typical price tag is $50,000 perforeclosedhome,orasmuchas30–60percentoftheoutstandingloanbalance.5REOmeanshigher disposition costs, local taxes and

The National Community

Stabilization Trust will remain

committed to ensuring that a

predictable, transparent,

high volume of property traffic

flows to local buyers.


insurance obligations, a more deterioratedproperty,andtheriskoffloodinganalready-saturated,weakrealestatemarket.

• HAMP purgatory. Implementing the U.S.DepartmentoftheTreasury’sHomeAfford-able Modification Program (HAMP) hasbeenacapacitychallengeformanyfinancialinstitutions. Until recently, loss-mitigationefforts were not resulting in either stream-linedapprovalordefinitivedenialsofHAMPborrowerrequests.Becauseofthemandatorytrial period within the program, it can takea borrower six to seven months to find outwhetherheor shequalifies forapermanentloan modification. Based on the May 2010update from the federal government, only31 percent of trial-period HAMP modifi-cations had been converted into permanentstatus, for a total of approximately 340,000modificationsamongthe7millionseriouslydelinquent homeowners facing foreclosure.All signs point to more post-HAMP fore-closurefilingsin2010.

• Short sales. Short sales involve a propertybeingsoldbyadefaultedborrowerwiththeapprovaloftheservicerforlessthantheout-standing loan amount, in satisfaction of themortgage. Major servicers have stepped uptheireffortstosignificantlyincreasethenum-berofshortsalesasacost-savingalternativeto foreclosure. Many are making improve-ments to technology and devoting morestafftoincreasethesevolumes.TheTreasuryDepartment’s new Home AffordableForeclosure Alternatives Program (HAFA),an aggressive incentive program for shortsales,shouldfurtherreduceREOlevels.

• Keeping occupied properties in default sta-tus. Increasingly, financial institutions findit fiscally preferable to keep a nonperform-ing asset in their servicing pipeline, ratherthan move it to REO. This is particularlytruewhenthedefaultedborrowersremainintheproperty.Keepingthepropertyoccupiedavoids vandalism and buys time for marketdemandtoincrease.

• Charge-offs. Charge-offs, or “walk-aways,”are a growing problem, especially in weakmarkets.Somefinancialinstitutionsaresimplywalkingawayfromlow-valueproperty,ratherthantaketitletothepropertyatthesheriff ’ssale.Thisactionleavestheproperty,whichisalmostalwaysabandoned,inlegallimbo;itisnotanREOandthusisnotcountedamongfinancialinstitutions’REOinventory.

Lessons Learned during the First Year of NCSTWhen creating the National CommunityStabilizationTrust, its founders aimed for anorganization that would connect two dispa-rateworlds—thefinancial institutionsholdingunprecedented levels of foreclosed and aban-doned property and local housing providersseekingtopurchaseandreusethesepropertiestofosterneighborhoodstabilization.TheTrustwouldbothcreateahighwaybetweenthesetwoworldsandserveas“trafficcop”toensurethatsellersandbuyerswereadheringtotherulesoftheroad.

While theTrust’s role as property-acquisitionintermediary is now well established, the firstyear of NCST’s operations felt more like arollercoasterthanahighway,withmanyunan-ticipated dips and turns. In an ever-changinghousing market, predictability was difficulttofind.Yet,despite thedetours,by June2010financial institutions had shown more than45,000 properties through the Trust to morethan130NSPgrantees.Somecommunities—such as Minneapolis; Clark County, Nevada;and Los Angeles—each purchased more than80propertiesinthefirsthalfof2010.Propertytransactions facilitated by the Trust gainedNSPgranteesanaveragepropertydiscountofmorethan15percentfromfairmarketvalue—asavingsofmorethan$16,000perproperty.6

Perhapsmostimportant,theTrusthaslearnedsomevaluablelessonsoverthefirst12monthsofoperationsthatcanservethehousingindus-trywellgoingforward.


1. Quick and certain sales save all parties money. ByarrangingforquicksaleofREOsto publicly supported buyers, financialinstitutions are savingmoney andavoidingproperty disposition uncertainty. A quicksale means lower carrying and marketingcosts,lesspropertydeteriorationandvandal-ism, and other savings.This “net realizablevalue”hasresultedinthe15percentaveragediscounttodateforbuyersofREOsthroughtheTrust,andhashelpedthesellersdefendtheir sale prices to the investors who owntheseproperties.

2. NSP buyers need preferential access through programs like First Look. Although initially developed to ensure adiscountconsistentwithearlyNSPrequire-ments, theTrust’s “first look” program hasbecomethemostpopularwaytoensurethatNSPbuyerscanseeandselectivelybuytheREO property best suited for their neigh-borhood stabilization plans. Through theprogram,NSPandothersociallymotivatedbuyersareprovidedanexclusivewindowtosee and determine interest in new REOsbefore these properties are marketed tothe public. First Look saves NSP buyersthe challenges of searching for propertyholdersofrecordandcompetingwithcash-readyinvestors.

3. Less-focused showings of REOs are hugely inefficient. In 2009, the Trust pushedthousandsofavailableREOpropertynoti-ficationsouttoNSPgranteesorsub-granteebuyers (typically one or more entities des-ignated by the NSP grantee to purchaseREO property), principally through theFirst Look program. Many of these prop-erties were subsequently purchased at anattractive discount. This process, however,was staff-intensive and did not help NSPbuyersdiscernwhichREOpropertiesweremost strategically important to acquire.For example, REO departments withinfinancial institutions typically categorizeproperties by ZIP code only, even thoughmostNSPbuyers’ targetmarketsaremuchsmaller,oftensmallerthanacensustract.In

effect,theTrusthadbeenprovidingawholebasketofapplesforsale,knowingthatonlyafewripeoneswouldultimatelybepurchased.This supply-side solution was helpful butinefficient. A more targeted approach willallow the Trust, financial institutions, andbuyerstoidentify,searchfor,andsecurethemoststrategicallyimportantproperties.

4. More sophisticated tools are critical to promoting and transacting REO proper-ties. GettingtoscalewithREOacquisitionanddispositioneffortswillnecessitatemorestreamlined operations and better technol-ogy for sellers, buyers, and intermediariesalike. Making the process workflow moreefficient will require adopting technol-ogy that can quickly identify foreclosedand abandoned properties, track down theownerormanagerof therightones,deter-minepropertyvalues,andgeneratepurchaseagreements quickly and consistently. Alsocriticalistheabilitytomap,track,andreportonprogress.

More Strategic Property AcquisitionsClearly, there must be a more robust andcomprehensiveprocessinplacetoacquiresuf-ficientconcentrationsofnewandexistingREOpropertyinordertorevitalizedistressedneigh-borhoods. At the same time, new strategiesmustbedevelopedtosecurepropertybefore itbecomesREO.Somekeytacticswillinclude:

New technology solutions. New technologyresources canhelpNSPprovidersmore accu-rately assess their local real estate landscape,pinpointthemostimportantpropertyassetsforpurchase, and track and report on theirprog-ress.OnesuchtoolistheTrust’sREOMatch,anew,web-basedmappingandproperty-trans-action tool that will allow property buyers toviewallcurrentREOinventoryintheirtargetmarkets. New REO properties identified byfinancial institutions populate the maps daily.Workflowscanbemanagedelectronically,andTruststaffcanprovidecustomersupportratherthan focus on administrative property-trans-fer processing. REO Match will also permit


buyerstoidentifyothervacantpropertyinthetargetmarkets, includingproperties indefault(pre-REO status), and to track progress inaccessingthem.PolicyMap,createdandmain-tained byThe Reinvestment Fund, is anotherindispensible tool. A geographic informa-tion system, it aggregates neighborhood-leveldemographic and economic information andallows users to create custom maps, tables,and charts using more than 10,000 indica-tors of neighborhood economic health. (Alsosee in this publication, “Maximizing theImpact of Federal NSP Investments throughthe Strategic Use of Local Market Data” byIraGoldstein.)

For coordinating complex projects, MercyHousing developed a tool called CommunityCentralforlocalNSPprograms.Thisweb-basedplatform offers asset and project managementcapacityforNSPevaluation,acquisition,reha-bilitation, and disposition processes. The toolcan automatically generate compliance andoversight reports that accurately documentriskmanagement,obligationlevels,andperfor-manceefficiency.

Demand-side “reverse inquiries.”Todate,mostNSP grantees have relied on a supply-sideapproach to REO property purchases—theybuypropertiesastheybecomeavailableasnewREObythelargerfinancialinstitutions.Withthe advent of new technologies, NSP grant-eesandotherhousingproviderscannowshopmore strategically, pinpointing specific prop-erties rather than relying on the“right” REOproperties to serendipitously become avail-able for purchase. Once the grantees identifystrategically important vacant properties in aneighborhood, the Trust can track down theservicersorREOholdersusingresourcessuchas trustee data, MERS, First American CoreLogic, and RealtyTrac. The Trust sees thisdemand-side approach as the new frontier ofpropertypurchases.WithREOMatch, itwillnowbepossibletoconducta“reverse inquiry”forNSPandothersociallymotivatedbuyers.

Short sales and other pre-REO executions. With HUD’s recent expansion of the defini-tionsofforeclosedandabandonedproperties,7NSPgranteescannowusefederalfundsagainsta significantly expanded pool of distressedproperties.Thebroadeneddefinitionsmitigatesomeofthechallengeslocalitieshaveinaccess-ingsufficientvolumesofproperty.With thesebroaderdefinitions,morethoughtfulplanning,andnewtechnologytools,NSPbuyerswillsoonbe able to engage as preferred short-sale andlow-valuepropertybuyers.REOsellerswillben-efitbyknowingearlierintheforeclosureprocessof interested public buyers with cash to close.In low-value markets, this new capability maydiscouragebankwalk-aways.Inotherinstances,itwill facilitatemoreefficientshort-saletrans-actions.While theshort salewill inevitablybemore time-consuming than REO purchases,theopportunitytoidentifyandthencontrolkeypropertyassetsthroughashortsaleshouldproveappealingtosomelocalhousingplanners.

ConclusionWith serious defaults and foreclosures likelyto remain a significant challenge for the next18–24months,communitieswillneednewcol-laborations, new technology applications, andnew comprehensive approaches to keep up.Technical assistance from HUD and on-the-ground experience are helping. Moreover, asthefocusmovesfromobligatingNSPfundingquicklytousinglimitedpublicfundinginmorecreativeways,buildingpropertyacquisitionanddispositioninfrastructureforthelongrunwillbeessential.Evidencetodateindicatesthattheacceleratedlearningcurveofthepast18monthswillplacemorepropertysellersandNSPbuyersin a stronger, more productive position goingforward.Foritspart,theNationalCommunityStabilization Trust will remain committed toensuring that a predictable, transparent, highvolumeofpropertytrafficflowstolocalbuyers.For localities with the discipline to maintainhighly focused geographic target markets andtoundertakeathoughtfulpropertyacquisitionanddispositionstrategy,theprospectoftangi-bleandsustainableneighborhoodstabilizationlookspromising.

In an ever-changing housing market, predictability was difficult to find.


Craig Nickerson is president of the NationalCommunity Stabilization Trust. From 1997to 2008, Mr. Nickerson was vice president ofexpanding markets for Freddie Mac. Prior tothat, heworked forHUD in multiple capacities,including coordinating the National Partnersin Homeownership program and directing theagency’shousingrehabilitationefforts.Hehasalsoheldpositionswithmunicipal,mortgagefinancing,and consulting organizations. Mr. Nickerson hasauthored numerous publications on neighborhoodrevitalizationandaffordablelending;hewasaco-author of the National Homeownership StrategyfortheClintonAdministration;andhedevelopedtheCatch theDreamandDon’tBorrowTroublecampaignsforFreddieMac.

Endnotes1 The Neighborhood Stabilization Program, authorized

underTitleIIIoftheHousingandEconomicRecoveryActof2008,isadministeredbytheU.S.DepartmentofHousingandUrbanDevelopment.NSPprovidesemer-gencyassistancetostateandlocalgovernmentstoacquireandredevelopforeclosedpropertiesthatmightotherwisebecomesourcesofabandonmentandblightwithintheircommunities.Thefirst$3.92billioninNSPfundingwasallocatedbyHUDtomorethan300stateandlocalgov-ernmentsinthespringof2009;inJanuary2010,HUDannouncedanewsecondroundofalmost$2billion inadditionalfunding.

2 The National Community StabilizationTrust was cre-ated in 2008 by Enterprise Community Partners, theHousingPartnershipNetwork,LocalInitiativesSupportCorporation, NeighborWorks America, the NationalCounciloflaRaza,andtheUrbanLeague.

3 The Protecting Tenants at Foreclosure Act, passed inMay2009underTitleVIIoftheHelpingFamiliesSaveTheirHomesActof2009,createsarightforcertainbonafidetenantsofforeclosedpropertiestoremaininposses-sionoftheirrentedpropertyaftertheforeclosinglender

becomesitsowner.Thetenantisallowedanextraperiodoftimetoremainintheproperty,equalto90daysafteranoticetovacateisgivenortheremainingtermofthattenant’slease,whicheverislonger.

4 TheUniformAct,passedbyCongressin1970,establish-esminimumstandardsforfederallyfundedprogramsandprojectsthatrequiretheacquisitionofrealproperty(realestate)thatcouldcausethedisplacementofpersonsfromtheir homes, businesses, or farms. The Uniform Act’sprotections and assistance apply to the acquisition,rehabilitation,ordemolitionofrealpropertyforfederalorfederallyfundedprojects.

5 MortgageBankersAssociation,“Lender’sCostofFore-closure” Policy Paper, May 28, 2008 (http://www.nga.org/Files/pdf/0805FORECLOSUREMORTGAGE.PDF).

6 FinancialinstitutionscalculatethepriceatwhichtheyarewillingtosellthepropertiestoNationalCommunitySta-bilizationTrust localbuyersusinganet-realizablevalueprocess. The price offered to local buyers reflects costsavings realized from expedited REO sales, includingsavingsfromtheprojectedtimeonthemarketforproper-ties in that target market and the various carrying andmarketingcosts.

7 On April 2, 2010, HUD announced significant revi-sions to thedefinitionsof“foreclosed”and“abandoned”properties under NSP. Properties are eligible for NSPassistance if anyof the followingconditionsapply:Theproperty is at least 60 days delinquent on its mortgageandtheownerhasbeennotified;orthepropertyowneris90daysormoredelinquentontaxpayments;orunderstateorlocallaw,foreclosureproceedingshavebeeniniti-atedorcompleted;orforeclosureproceedingshavebeencompletedandtitlehasbeentransferredtoanintermedi-aryaggregator.Thedefinitionofanabandonedpropertywas expanded to include homes where no mortgage ortaxpaymentshavebeenmadeby theowner forat least90daysoracodeenforcementinspectionhasdeterminedthatthepropertyisnothabitableandtheownerhastakenno corrective actions within 90 days of notification ofthe deficiencies (http://portal.hud.gov/portal/page/por-tal/HUD/press/press_releases_media_advisories/2010/HUDNo.10-066).


Asoneofthekeyplayersinnationwideeffortsto stabilize the housing market, Fannie Maewantstokeeppeopleintheirhomeswheneverpossible. It is our organization’s first prior-ity. One of Fannie’s highest-profile efforts isthe Obama Administration’s Making HomeAffordable program, which includes oppor-tunities to modify or refinance mortgages.In addition, Fannie Mae has developed anonline tool called “Know Your Options” tohelpborrowers learnaboutoptions for avoid-ingforeclosureandhowtohavemoreinformeddiscussionswiththeirmortgagecompanies.

Despitetheseandotherfederal,state,andlocalefforts to help homeowners avoid foreclosure,theunfortunaterealityisthatagrowingnumberofborrowersfaceeconomicandotherhardshipsthatmakethemunableorunwillingtostayintheir homes. The result is more foreclosuresand increasing numbers of real-estate-owned(REO) properties. In two years, FannieMae’s REO dispositions almost doubled—from64,843in2008to123,000in2009.

Because empty homes depress neighboringhomes’ values, which deepens the loss thatFannieMae incurs on eachof ourproperties,we continue to manage our REO pipeline asefficiently as possible, both to minimize ourlossesandtostabilizeneighborhoods.Managedcorrectly, our REO dispositions can help thehousingmarketrecoverandprotectthe inter-estsoftaxpayers.

With neighborhood stabilization at the coreof our REO management efforts, we have

developedanumberofcreativeinitiativesthatsupportouroverallstrategy.OurREOdisposi-tioneffortsfocuson:

• Selling as many REO homes as possibleto owner-occupants. The best tool we haveto promote neighborhood stabilization isthat of selling to homeowners who areinvested in the long-term sustainability oftheircommunities.

• Continuingtodevelopandimplementviable

REO rental options for former borrowers,tenants in foreclosedproperties, andpoten-tial new tenants as a way to return vacantand abandoned homes to productive useincommunities.

Oneof themost importantof theseefforts isourFirstLookinitiative,whichbeganasapilotinsummer2009andwasrolledoutnationallythatNovember.

First LookFirstLookisawaytopromotehomepurchasesbyowner-occupantsandbuyerswhoqualifyforpubliclyfundedhousingprograms.1WithFirstLook, Fannie Mae will only consider offersfrom owner-occupants or buyers using publicfunds during the initial listing and market-ing period of a foreclosed property. For mostareas,thisistypicallythefirst15daysaprop-ertyismarketed.Whileinvestorsplayaroleinthe REO market, homebuyers who intend tooccupy the property make an immediate andlasting commitment to the community, andthereforemeritextraconsiderationintheREO

REO Disposition and Neighborhood Stabilization: A Servicer’s View

by Jay N. Ryan Jr.Fannie Mae


While Fannie’s efforts are

centered on owner-occupants and renters who

will live in the communities,

investor sales—which provide

a much-needed infusion of private capital—also play

a role in our REO disposition efforts.

sales process. First Look provides this extraconsiderationandisdesignedforowner-occu-pantsseekingtoacquireindividualpropertiesaswellaspublicentitiesseekingtoacquiremorethan one property. As our property inventoryincreases,wewillcontinuetoexplorestepsthatgiveowner-occupantsthebestpossiblechanceofasuccessfuloffer.

Feedback from national and local communitypartners tells us that not only has First Lookbalanced a scale that has traditionally tiltedtowardsinvestors,butit’salsoasimple,easy-to-useprogram.And if imitation is the sincerestform of flattery, others apparently think theFirstLookapproachisagoodone:TheFederalHousingAdministration,forexample,recentlyrolled out a similar program. First Look hasbeen well received by homebuyers and publicpartners,too,andhasbecomeaneffectivetoolfor directing property disposition with neigh-borhoodstabilizationinmind.Ofour123,000dispositions in2009, roughly70percentwereto owner-occupants or buyers using publicfunds. Because First Look was implementedinthesummerof2009,historicaldataarestilltoo limited to allow us to draw conclusions.However, we continue to track the data andplantoprovidemetricsin2011.

Deed-for-Lease and Other Options for Renters While options for owner-occupants and pub-lic entities remain our focus, we recognizethat renters also act as a stabilizing force inneighborhoods. Fannie Mae has several dif-ferent programs for renters, all intended todeter the displacement of families, the dete-rioration caused by vandalism and theft fromvacant homes, and their effects on families,communities, and home-price stabilization.Renters already occupying foreclosed proper-ties have several basic protections under theProtectingTenantsatForeclosureActof2009,which provides that tenants may stay at leastuntil the end of their existing lease, and thatmonth-to-month tenants are entitled to 90days’noticebeforehavingtomoveout.FannieMaehasextendedopportunitiesforrenters inFannieMae–ownedproperties,providingnew

12-monthleasesaswellaspossibleextensionsforthosewhomeetsomebasicqualifications.

FannieMaealsooffersarentaloptionforown-ers who would otherwise lose their homes toforeclosure, but would like to remain in theirhomesasrenters.ThroughtheDeed-for-Leaseprogram, qualified borrowers of propertiestransferredthroughdeed-in-lieuofforeclosurecanremainintheirhomesbyexecutingaleaseof up to 12 months in conjunction with thedeed-in-lieu.

Finally, through a pilot program in Chicago,FannieismakingitsREOpropertiesavailableto renters. Through this program, vacant for-sale properties are removed from the marketand assigned to property managers, who rentthemtoindividualswithcertainqualifications.This contributes to stable and diverse com-munitiesandenablesFannieMae tohold theproperties in a long-term rent portfolio anddisposeofthemwhenthemarkethasstabilized.

Cities, Counties, and StatesA dedicated team of Fannie Mae employeeswithintheagency’sREOsalesgroupsupportsgovernmententities,publicagencies,andnon-profit organizations seeking to acquire REO.A key constituency of this “public entities”channelisthegroupof365grantrecipientsofthe U.S. Department of Housing and UrbanDevelopment’s Neighborhood StabilizationProgram(NSP),whichFannieisreachingouttoinordertoexplainFirstLookandhelpgrant-eesunderstandhowtheprogramcanhelpthemmakethebestuseoftheirNSPallocations.

Sales through the public-entities channel arehandledliketraditionalREOsales:Publicenti-tiescontactthelistingbroker,arrangetoseeanREO property, and submit an offer. Brokers,however, are required to tell uswhenanofferinvolvespublicfunds.Theseoffersareassignedto the appropriate representative in our pub-lic-entity sales channel, and that individualnegotiatesthetransaction.

Throughout the entire process, Fannie’s REOsalesandcommunitydevelopmentteamsmake


direct contact and partner with all 365 NSPrecipients to build relationships and ensurethatbrokersareactingingoodfaithtobringalloffersforward.

Under First Look, public-entity buyers—includingthoseusingNSPfunds,CommunityDevelopment Block Grant funds, HOMEInvestment Partnerships Program funds fromHUD, local housing trust funds, or charitablefoundation funds—may qualify for additionalbenefits,including

• Deposit waivers. FannieMaewillwaive thedeposit requirement for public entities thatusepublicfundstopurchaseaFannieMae–owned property. For individual homebuyerswho qualify for public funds and want topurchaseaFannieMae–ownedproperty,thedepositrequirementcanbeaslowas$500.

• Reserved contract period. Upon receipt ofan acceptable offer, buyers may be able torenegotiate their offer after obtaining anNSP-requiredappraisal.

• Extra time for closing. Buyers receive upto 45 days to close—15 days more than isusually permitted for purchases of FannieMae–owned properties. Generally, however,we find that the average number of days tocloseonapublicly fundedREOtransactionisnohigherthanonatraditionallyfinancedREOtransaction.

BetweenJanuary2009andMarch2010,FannieMae sold nearly 3,000 properties to buyersusingpublicfunds.Wecontinuetoseeknontra-ditionalwaystosellproperties,includingsellinghomestocities,counties,states,andotherpub-lic entities and selling multiple properties inpool transactions or through public auctions.At the heart of many federally and locallyfundedinitiativesarepublicandphilanthropicfunds,whichhavecommunitystabilizationasacommongoal.

Targeting Municipalities and Communities for Scaled AcquisitionsAsourpublic-entitiessaleschannelconducteditsoutreachefforts,wefoundpartnersthatwereinterestednotonlyinretailREOsales,butalsoin transactions including low-value propertiesfor demolition and rehabilitation programs(such as NSP), deals that targeted specificneighborhoods, andother customizedacquisi-tions.We identified several cities andmarketswhere local capacity andahighconcentrationof Fannie Mae inventory made it possible tocomplete strategic transactions that had thepotential for near-term, transformative resultsinstabilizingspecificneighborhoods.

Low-value pools. Structured low-value trans-actions appeal to potential buyers in marketswith large numbers of low-value propertiesandwherepublicentities, suchasNSPgrant-ees,maybepursuingstrategiesthatincludethedemolitionoracquisitionandrehabilitationofsuchproperties.Entitiesmustcommit topur-chasingapoolofat least25properties, eitherinasingletransactionoroveraspecifiedperiod.We identify appropriate properties based onbuyers’criteria.Thesetransactionscarryspecificbenefitsforpublicentities:

• Buyers negotiate with one representative ofour public-entity sales channel, rather thanwithmultiplebrokersandlistingagentsinthetraditionalretailmethod.

• Becausebuyers’criteriaspecifyonlylow-valueproperties, which are difficult to price withagreatdealofprecision,purchasepricesaremuchmoreflexible.

• Buyerstendtorealizesubstantialcostsavings.

Traditional pools. Traditional-pool deals areavailableforentitiesthatwanttopurchase25ormorepropertiesandarenotnecessarilylimitedtolow-valueones.Buyerscanengageindirectnegotiations with Fannie Mae, in most casessubmittinganofferforentirepools.Benefitsofthismethodtobuyersinclude• Negotiationswithasingleparty• Nolimitsinproperty-valuecategories• Traditionalclosing,withescrowandprorating.


Sales of occupied properties. In these trans-actions, public-entity buyers may purchasepropertiesfromFannieMae’sinventorybeforethe properties are placed on the market; thisgives public-entity buyers an advantage overother potential bidders. Execution is limitedto properties that fit the entity’s strategy andcan accommodate complications, includingredemption periods (the time in which theoriginal property owner can reclaim a fore-closedpropertybymakingfullpaymentonthemortgagedebt)andevictions.

InatraditionalretailREOtransaction,publicentities can purchase properties occupied bytenants who have entered into rental agree-ments with Fannie Mae. The OccupiedPropertiesprogramextendstopropertieswithtenantswhohavenotenteredintorentalagree-ments with Fannie Mae.These occupants arefrequently the tenantsof formerhomeowners,or the former homeowners themselves whohaveyettovacatetheproperty,perhapsbecauseofredemptionperiods.Publicentitiesmaywishto purchase these properties to keep tenantsandformerhomeownersinthehomes.

Investor SalesWhileFannie’seffortsarecenteredonowner-occupants and renters who will live in thecommunities, investor sales—which providea much-needed infusion of private capital—alsoplayaroleinourREOdispositionefforts.As the number of our REO properties hasincreased, we have responded by significantlyincreasing the amount of investor screeningwe do before we approve pool sales to inves-tors. For instance, we conduct site visits toother projects the investor has purchased aswellas follow-upvisits toourpropertiesafterthey’resold,andconducttitlesearchestoensurethatour investors areperformingas they saidtheywould.

We also introduce the investor to represen-tatives of the local community, whom weencourage to do their own research on theinvestors.Inshort,wecareaboutwhatinvestorsdowiththepropertiesweselltothem.Inour

experience,wehavefoundthatsomeinvestorsaremission-driven, likehousing-focusednon-profits,andoftenarebettercapitalized.

Strategic Partnerships for Neighborhood Stabilization: Examples of ResultsAs we enhance our programs, Fannie Maecontinues to seek partnerships that can focusourREOsalesonneighborhoodstabilization.HerearesomeexamplesofFannieMae’sworkandthepartnershipswecreate:

Minneapolis/St. Paul. Fannie Mae has beensupporting communities in the Twin Citiesmetropolitan area on several fronts. We are amemberoftheMinnesotaForeclosurePartnersCouncil,acollaborativeeffortestablishedbytheFamilyHousingFundthatfocusesonforeclo-sure prevention, acquisition and rehabilitationofREOproperties,newproductdevelopment,andlegislativeactiontohelpstabilizeneighbor-hoodsintheTwinCities.Weworkwithmorethan25partnersintheareatoprovidepropertylists and information on mortgage productsandservicesthatmaybeusefulinaccomplish-ingtheirgoals.In2009alone,thecouncilusedNSPandotherfundstobuyandrehabilitate68FannieMaehomesforresaletohomeowners.

City leaders in Minneapolis are acquiringproperties for demolition and also workingwith nine nonprofit and for-profit partnersto acquire, rehab, and sell REO properties toowner-occupants. City leaders support thiseffort with down-payment and closing-costassistanceprograms.MinneapolisandSt.Paulalso recently closedonfirst-time-buyermort-gagebonds,purchasedinpartbyFannieMae.

St. Paul, which has purchased 45 propertiesto date from Fannie Mae through our retailchannel, is interested inamuchmoreaggres-siveapproach.Tothatend,wehavefinalizedaninnovativeagreementinwhichSt.PaulreviewsFannie Mae’s available REO properties andsubmits an offer for a pool of properties thatwillbeeitherdemolishedorrenovatedinsup-portofSt.Paul’songoingstabilizationefforts.


Another joint effort involves theTwin CitiesCommunity Land Bank, which was estab-lished in the fall of 2009 and is interested inacoordinatedpoolpurchase fromFannie thatencompasses18citiesandmultiplecountiesinthemetroarea.

TheGreaterMinnesotaHousingFund is alsoworking with us to purchase REO propertiesfor its extended partner network throughoutthe rest of the state, primarily to acquire andrehabilitatepropertiesitcansellorrent.Weareworkingcloselywith theFund’s staff tomakesureithasup-to-datepropertyinformationfordistributiontoitsnetwork.

Phoenix. Phoenix and Maricopa County arestabilizing communities through programsthat support owner-occupancy of foreclosedproperties and through direct acquisition andrehabilitation of foreclosed properties. Theseprogramshavereceivedmorethan$121millionin NSP funding since March 2009. In 2009,they supported the purchase of 162 FannieMae properties through down-payment assis-tanceforowner-occupantsandacquisitionandrehabilitationprograms.

Fannie Mae engaged with Phoenix andMaricopa County, as well as with their non-profit partners, to help complete these trans-actions. Our staff provided on-the-groundassistancetolocalpartnerstoexplaintheFirstLook program and our procedures for REOpurchases. We provided intellectual and eco-nomic capital to support these transactionsfromoffertoclosing.WeareworkingwiththeArizonaDepartmentof Housing, Housing Our Communities, theLocal Initiatives Support Corporation, andother partners in Phoenix and Arizona asthese organizations seek to expand their pro-grams.Wehavediscussedalternativestrategiesfor the sale of REO properties and piloteda community auction for these properties inApril of 2009. The auction was successful inlinking buyers with NSP-eligible properties.These community auctions are only open to

NSP-qualifiedbuyerstoensurethattheprop-ertiesareultimatelydeliveredtobuyerswhoarecommittedtolivingintheircommunities.Cleveland. Fannie Mae has been workingwith municipal leaders in Cleveland and thesurrounding suburbs to assist their efforts topurchaseFannieMaeREOthroughourretailchannel. Cleveland has aggressively attackedthe problem of vacant properties through acity-wide demolition strategy and, with guid-ance from its land-assembly team, formedthe Cuyahoga County Land ReutilizationCorporation(CCLRC)toimplementitsplans.FannieMaehasagreedtoanongoingmonthlysaleoflow-valuepropertiestotheCCLRC.Wetypicallysellthesepropertiesforonedollar,plusacontributiontowardsthecostofdemolition.

Our agreement with the CCLRC is our firstmonth-to-month flow transaction for low-value properties in the nation. We completedourfirstsaleundertheagreementinDecemberof2009,andwecontinuetoassemblepoolsoflow-value properties for transfer.The demoli-tionaccomplishesthegoalsofreducingexcesshousing stock and eliminating blighted andnuisance properties. CCLRC also acts as anaggregator to ease the transfer of salvageablepropertytolocalnonprofitsandothercommu-nity-approvedredevelopmentefforts.

Attheoutset,thelocalplancalledfortherede-velopment of 50 vacant properties each yearfor homeownership, rental, or lease/purchase,each targeting buyers with incomes between60percentand120percentofthecommunity’smedian income. The CCLRC plan augmentscity-runeffortstodemolishthousandsofnon-salvageablepropertiesoverthenextfewyears.

Looking ForwardAtFannieMae,ourchallengeistomanagethedispositionofourREOpropertiesinamannerconsistent with our public mission to supportliquidityandstabilityinthesecondarymortgagemarket and increase the supply of affordablehousing. We are mindful that we must mini-mize losses as we do so. Our neighborhood

For individual homebuyers who qualify for public funds and want to purchase a Fannie Mae–owned property, the deposit requirement can be as low as $500.


stabilizationeffortsareakeystrategyinfulfill-ingthesemandates.

PlacingREOpropertiesinthehandsofownerswhowillliveinthem—ownerswhoaremakingan emotional as well as a financial commit-ment to the communities the properties arein—is perhaps the most fundamental meansof stabilizingneighborhoods.That isnosmalltask, given the rising tide of foreclosures andthe commensuratedemandsonourproperty-dispositionteam.

Old methods alone won’t get the job done;in this case, innovation is not a luxury, but arequirement. We are planning new initiativesandenhancementsofexistingprogramsintheweeks and months ahead as we continue toworkwithpartners in cities andcommunitiesacrossthecountryinachievingoursharedgoalofstabilizingandrevitalizingneighborhoods.

Jay N. Ryan Jr. is Fannie Mae’s vice presidentfor REO Alternative Disposition. He managesthe disposal of Fannie’s REO through non-traditionalmethods,includingauctions,poolsales,rentalprograms,andworkingwithpublicentitiesand Neighborhood Stabilization Program fundrecipients. In addition, he is directly responsibleformanagingthecompany’sequityinvestmentsintax-advantaged properties, primarily those thatqualifyforfederallow-incomehousingtaxcredits.Before joining Fannie Mae in May 1998, RyanwaswithFreddieMac’sMultifamilyCommunityDevelopmentInvestmentGroup.HehasanMBAin finance from the University of Maryland’sSmithSchoolofBusinessandaBS inaccountingfromtheUniversityofMaryland.

Endnote1 AllFannieMae–ownedproperties(whichare listedon

www.homepath.com)arepartofFirstLook.


The Neighborhood Stabilization Program(NSP) was authorized by the Housing andEconomicRecoveryActof2008forthestatedpurpose of assisting states and local govern-ments redevelop abandoned and foreclosedhomesandresidentialproperties.Itsestablish-mentwasanacknowledgmentthatthenegativeeffectsof the foreclosurecrisisarenot limitedto households that lose their homes and thebanksandinvestorsthatownthesemortgages,but also spill over to the jurisdictions andneighborhoods where foreclosed propertiesare located.The U.S. Department of HousingandUrbanDevelopment(HUD)wasassignedresponsibility for theprogram,whichwas ini-tially funded at $3.9 billion.2 HUD allocatedprogram monies directly to states and to cer-tain Community Development Block Grantentitlement communities,3 basedon themag-nitudeoftheforeclosureproblemsfaced,usinga formula that incorporated several indicatorsof such problems.4 States, in turn, developedsystems to distribute their allocations amongtheirjurisdictions,5therebycreatingagroupofindirectgrantees.6Withingranteejurisdictions,funds were to be targeted to areas with theworst problems. All grantees, whether fundeddirectlyorindirectly,wererequiredtoobligateall funds within 18 months of the date thatHUDreleasedthesemonies.7

NSP funding could be used for five typesofactivities:• Establishment of financing mechanisms,

such as down-payment assistance, for thepurchase and redevelopment of foreclosedresidentialproperties

• Acquisitionandrehabilitationofabandonedor foreclosed residential properties with theaimofrestoringthemtoresidentialuse

• Creationof landbanks forhomes thathavebeenforeclosedon

• Demolitionofblightedstructures• Redevelopment of demolished or vacant

properties.

Effectiveimplementationofseveraloftheitemson this list requires that jurisdictions, or theentitiesandindividualswithwhomtheypart-nered,8haveaccesstoREOproperties.Further,sinceREOpropertieshavecommonlychangedhandsthroughprivate-markettransactions,itisimportantthat jurisdictionsandtheirpartnersunderstand andbe able to carryout the stepsinvolvedinthesetransactions.

This article focuses on the challenges facedby NSP grantees in purchasing privately-heldREO properties within program parametersthatrequire,forexample,thatgranteesacquireproperties at a discount from market value.We use quantitative and qualitative surveydatacollectedfromprogramadministratorsofmore than 90 direct and indirect NSP grant-ees;9 these data were gathered as part of aprojectontheplanningandearlyimplementa-tionofNSPundertakenby researchers in theFederal Reserve System’s Community Affairsoffices. REO acquisition is explored primarilyinthecontextofacquisitionandrehabilitation(A&R), the NSP-eligible activity most fre-quentlyincludedinthesegrantees’NSPplans.

Acquiring Privately Held REO Properties with Public Funds: The Case of the Neighborhood Stabilization Program

by Harriet Newburger1 Federal Reserve Bank of Philadelphia


The Context: Grantee Acquisition and Rehabilitation Activities10 More than 90 percent of the surveyed pro-gram administrators indicated that their NSPprogramincludedanA&Rcomponent.Manyreportedthisactivitywasthemostnecessaryindealingwiththeimpactoftheforeclosurecri-sis.Morespecifically,someindicatedthatA&Rwas best suited to deal with the single-familyproperties and blighted stock that compriseda large shareof their communities’ foreclosureinventory, while other respondents viewedA&R as a means to restore older housingstockortoincreasethecommunity’ssupplyofaffordablehousing.

Althoughaboutthree-quartersofgranteeshadatleastsomepastexperiencewithA&Ractivi-ties,abouthalfofgrantees indicated that theirNSP acquisition and rehabilitation activitiesconstitutedanewprogram.AlmostathirdmoreindicatedthatatleastsomeoftheirA&Ractivi-ties were new.11 Yet, despite the role of A&Ractivities in almost all respondents’ programs,along with the stringent timeframe of theNeighborhood Stabilization Program, five toseven months into their A&R activities, only53 percent of grantees had purchased at leastone property for rehabilitation. This suggeststhepossibility thatmany respondents encoun-tered difficulties in their attempts to completeREOtransactions.

Challenges to Acquiring REO Properties from the Private Sector SuccessinimplementingA&RactivitiesunderNSPrequiredsuccessinaccessingREOprop-erties.NSPgranteesandtheirpartnershadtobeabletoidentifyREOpropertiesandtonego-tiate purchase prices below properties’ marketvalues,12asrequiredbythelegislativelanguageforNSP.CongressleftittoHUDtospecifythesizeofthepricediscount,whichHUDinitiallysetat5percentforindividualpurchases,witharequired15-percentaggregatediscountfortheentireportfoliopurchase.

Competition from the private sector. Therequireddiscountsweresoondroppedto1per-cent for individualpurchasesandnoaggregatediscountrequirement.13However,thecompara-tivelyhighdiscountinHUD’sinitialregulationssuggeststhebeliefatthattimethatacquisitionofREOpropertieswouldberelativelyeasy:If,forexample,therewaslittleprivate-sectordemandfortheseproperties,thenonemightexpectthatthe institutions thatheld themwouldbewill-ing to sell the properties at a discount. Thismayhavebeen the casewhenNSP legislationwaswritten.WhatNSPgranteesfoundastheybegan to implement their programs, however,wasoftenquitedifferent.Insteadofundertakingactivities that theprivate sectorhadoptedoutof—asoftenhappenedwithpubliclysponsoredredevelopmentandrehabilitationefforts—manygranteesfoundthemselvesincompetitionwithprivate-sector investors, a phenomenon thatwaswidespreadacrossdifferent typesofhous-ing markets with different underlying sourcesofforeclosureproblems.Moreover,NSPgrant-eesoftenfoundthemselvesatadisadvantageinthecompetition.

Locating REO stock.At themostbasic level,many grantees cited problems in identifyingREOproperties.Inpart,thismayhavereflecteda lack of experience with REO acquisition, orstart-upproblemswithnewformsofacquisitionprograms,asstatisticspresentedintheprevioussectionsuggest.Evengranteeswithconsiderableacquisitionexperiencemayhavebeeninexperi-encedinacquiringREOproperties,andlackedchannelsofcommunicationwiththeentitiesthatheldthem.Addingtothedifficultyinidentify-ingapotentialpoolofproperties,anyindividuallendermighthaverelativelyfewREOholdingsinaparticularcommunity.However,manyNSPgranteesfeltthattheirdifficultieswentbeyondsuch logistical problems; rather, they sensedREO holders’ reluctance to work with them.Grantees cited aneed forgreater transparencyconcerning who held the properties.They alsobelievedthattheseholdersshouldreleasemoreproperties for purchase. One grantee reportedthatassetmanagersatnational-levelbankswereoften uncooperative; another cited a similarproblemwithlocalbanks.

Success in implementing A&R

activities under NSP required success in

accessing REO properties.


Making the deal: Hurdles posed by federal requirements. ReluctanceonthepartofREOholders to work with NSP grantees and theirpartnersprobablydidnotarisesimplybecauseprivate investors provided an alternative pur-chaser for their properties, but also becauseREO holders often preferred the terms onwhich they dealt with these private investors.Unlike NSP grantees, private investors oftenpaidincash.Furthermore,NSPgranteesweresubject to a wide range of federal require-mentsthatmadethemslowerthantheirprivatecompetitors in responding to opportunities,narrowed the range of properties that theycould consider, and limited the amount thattheycouldpay.14Insomecases, theserequire-ments also caused extra work for the entityholdingtheREOproperty.

Amongthefederalregulations,onestipulatingthatapropertyreceiveanenvironmentalreviewbefore a grantee or one of its partners couldpurchase it was cited particularly frequentlyby program administrators as a deterrent toproperty acquisition. A number of granteescomplained that, because holders of REOpropertywouldnotallowforcontingencies inpurchasecontracts,apotentialpurchasemightbe lost to an investor during the time it tookto complete the review. Two other require-ments—one concerning protection of tenantslivinginapropertyatthetimeitwasforeclosedon,andanotherrequiringthatforapropertytobeclassifiedas“abandoned”itmusthavebeenvacant forat least90days (amongothercon-ditions)—requiredcertificationandpaperworkfromthepropertyholderinordertoqualifyforpurchase with NSP funds. Property holdersoftendidnotknowwhethertheserequirementshad been met and, in the case of the 90-dayvacancy requirement, a number of granteesnoted that the property holders were slow toreturnpaperwork.

The requirement that properties be bought ata1-percentdiscountfrommarketvalue,whilemuchlessonerousthanthe15-percentaggre-gate discount initially included in programregulations, was still problematic for a num-ber of grantees, who noted that banks were

reluctant to sell at below-market prices. Onegranteenotedthatbankswerereluctanttosellevenatmarket value if thatwas less than theoutstanding loan amount. Another granteesuggested that the discount itself was not theproblem,sinceREOpurchaserstendtobuyata discount; rather, the heavy-handedness withwhich the discount requirement was imposedin NSP was the problem. Some programadministratorsnotedthatREOholders’lackofknowledgeandunderstandingofNSPregula-tionsaddedtograntees’difficultiesinacquiringsuch properties. The task of educating REOholders, one pointed out, might have beenassignedtoHUD,butinsteadhadfallentothegranteesthemselves.

Other obstacles.ThecompetitivedisadvantagecausedbyfederalNSPrequirementswasexac-erbated by local requirements and practices.For example, one grantee noted that a con-servative approach to property acquisition byhis community’s legal department had slowedthe implementation process. In another com-munity, stringent local standards for publiclyfinanced rehabilitation put the grantee at apotentialdisadvantagetoaprivateinvestor,whodidnothavetoincurthecostsassociatedwiththosestandardsandmightthereforebewillingtopaymorefortheproperty.Indirectgrantees,because they received funds from their states,might faceadditional requirements,developedby the state NSP program, that could furtherdelaythepropertyacquisitionprocess.

In addition to the challenges facing granteesinnavigatingprivateREOchannels,problemssometimesarosewhengranteestriedtoacquireforeclosed properties held by the FederalHousing Administration (FHA). In part, thisoccurredatleastinitiallybecauseofdifferencesin the way particular requirements—such asenvironmental review—were implemented. Inaddition, FHA regulations might affect howan NSP grantee looking to purchase FHApropertiescoulddesignitsprogram.TwoNSPgrantees complained thatFHAfield staffhadnot made it easy to learn about the agency’sREOassets.


Responding to the ChallengesIn response to the widespread difficultiesNSP grantees encountered in their attemptsto acquire REO property, HUD and, in somecases,otherentitiessuchasstateandlocalgov-ernments, made changes to the framework inwhichNSPoperated,whileNSPgranteesmadeadjustmentstotheirprograms.Forexample,inaddition todecreasing the sizeof the requireddiscount in purchase price soon after the pro-gram got underway, HUD also broadened thedefinitionsof“foreclosed”and“abandoned”usedindeterminingwhetherapropertywassuitableforpurchasewithNSPfunds.15Atthelocallevel,certainregulationswereadjustedforpurposesofimplementingNSPinsomejurisdictions.

Grantees also identified steps that hold-ers ofREO properties might take to increasegrantees’ ability to purchase suitable proper-ties, including arrangements for “first looks”at properties, multiple-lender registries, andallowing for contingencies in contracts. TheNational Community Stabilization Trust wasestablished specifically to implement a num-ber of these steps; as that organization gotoff the ground, some NSP administratorsreportedthatithadbecomeaneffectivechan-nelforindentifyingREOproperties.(Seealsoin this publication “Acquiring Property forNeighborhoodStabilization:LessonsLearnedfromtheFrontLines,”byCraigNickerson.)

Meanwhile, many grantees, faced with the18-month deadline for obligating NSP fundsanduncertainaboutthelikelihoodortimingofchangestoprogramregulationsortheeasingofotherproblems,tookanumberofstepstheyfeltwere critical if they were to meet their goals.They paid more—often considerably more—forpropertiesthantheyhadplanned.Theyalsoboughtpropertiesthathadgreaterrehabcoststhananticipated,becauseofinvestors’tendencyto get the REO properties in better physicalcondition.Thesehighercostsobviouslyreducedthe number of properties overall that couldbe restoredwithNSPfunding. Insomecases,grantees decreased (and, in at least one case,abandoned)theirtargetinginordertoincreasethe sizeof theirpotentialpurchasepool.One

communityhiredrealtorstoidentifyanypoten-tially eligible property within its jurisdictionbelowaspecific,relativelyhigh,price.Ineffect,marketplace realities—particularly in the con-textof a shortprogram timeline—meant thatinanumberofcases,NSPgranteesneededtorevisetheirgoals.

Implications for Policymakers Asanumberofgranteesnoted,start-upprob-lems are a feature of any new program. Inthe case of the Neighborhood StabilizationProgram, these typical start-up issues wereexacerbatedbytheprogram’sshorttimeline,byitsdesignationbyHUD’sInspectorGeneralasahigh-riskprogram,andby frequent changesto HUD regulations. Certainly, balancing theneed forquick action (aswas the case in sta-bilizingneighborhoodsaffectedbyforeclosure)with sufficient time for communities to movealongalearningcurveforanew,complex,andriskyundertakingisatopicthatdeservescon-sideration independent of the specifics of anyparticular program. However, many of theissues that have arisen in the implementationofNSParespecificallyrelatedtoprogramsub-stance.TwosuchissuesarisefromtherolethatacquisitionofREOpropertiesfromtheprivatesectorplayedinprogramimplementation;bothhaveimplicationsforpolicymakers.

First,wediscusstheneedforgreaterawarenessof private market conditions and concerns indesigningaprogramwhere thepublic–privateinterface is critical. It is important to remem-berthatNSPisastatutorilymandatedfederalprogram and, as with many such programs,legislative language and requirements do notalways reflect the practicalities of programimplementation. While the agencies chargedwithdevelopingregulationstomakeprogramsoperationalmayattempt tobetteraccount forreal-world considerations, as HUD did whenit required thatNSPfundsbeobligated ratherthanspentwithinan18-monthperiod,anagen-cy’s ability to do so is ultimately constrainedby legislation. HUD was further constrainedby theveryshortperiod itwasallowedtogetthe program underway.16 Many of the stepssuggestedbelowasmeansforbuildinggreater


awareness of private-market conditions maynothavebeenfeasible,giventheperiodallottedfortheprogram.

Based on our survey of program administra-tors,federalpolicymakersandprogramofficialsmight have taken some additional steps indesigning and implementing the program tohelp overcome private REO holders’ reluc-tance toparticipate.For example, backgroundresearchontheREOmarket,includinghowitworksandhowitchangesovertime,wouldhavebeenuseful.17ConsultationwithREOholdersof different types (lenders and servicers witha national market, local banks, GSEs) whiledeveloping the regulations could have easedprogram implementation, to the extent thatsuchconsultationisallowable.18AnumberofgranteessuggesteditwouldhavebeenusefulifHUDhadprovidededucationabouttheNSPprogramtoREOholders.Inaddition,technicalassistancetoNSPjurisdictionsonoperatinginthispartof theprivatehousingmarketmighthavelessenedsomeoftheirstart-upproblems.Finally, while many of these suggested stepsfocusonwaystofacilitateinteractionsbetweenNSP grantees and the private sector, bettercoordination with other federal programs,particularlyFHA,isalsoneeded.

At abroader level,policymakersmaywant toconsidertherolesplayedbypublicandprivateinvestors inmarketswherebothareactive. Inparticular,onewouldliketoknowwhethertheroleoftheprivateinvestorsupportsorconflictswith the neighborhood stabilization process.Forexample,investorsmightbuycheapprop-erties, make very superficial repairs, rent theproperties out for a few years, and then walkawaywhentheywerenolongerprofitable.Suchactivityisclearlyverydifferentfromthatenvi-sioned forNSP.On theotherhand, investorsmightbuy the“best” foreclosedproperties,dolimitedrehabilitationasneeded,andthenrentthem out and maintain them until the hous-ingmarketreboundsandthepropertiescanbesoldforaprofit.Inthisscenario,NSPgrantees,byplan—orbynecessityifprivateinvestorsaremore adept at getting the best properties—might purchase properties that need more

rehabilitation,butwhereinvestmentisjustifiedbysocial,ifnotprivate,benefits.Publicandpri-vateinvestmentwouldcomplementeachotherin thiscircumstance. Ina thirdscenario,pub-lic and private investors might purchase verysimilar properties. This raises the interestingquestion of whether similar public and pri-vatepurchasescanleadtodifferentlong-termoutcomes for properties and neighborhoods,taking into account differences in the scaleof rehabilitation; the buyer/renter status ofpost-rehabilitation occupants; and the condi-tions—such as pre-purchase counseling—thatsomehomebuyersmustmeet.

The particular scenarios that occur are verylikely to depend on the underlying nature ofthehousingmarket;onemightexpectthefirstexample to occur in older communities withdeclining population, while the second wouldbe more likely in communities where popu-lation growth would be expected to push uphousingpriceswithinarelativelyshortperiodof time. By better understanding when theactionsofprivate-marketinvestorsarelikelytopromoteneighborhoodstabilizationandwhenthese actions are likely to undermine it, poli-cymakers will be better able to target limitedpublicfundsinthefuture.

Harriet Newburger is a research advisor in theCommunity Affairs Department of the FederalReserveBankofPhiladelphia,focusingonresearchandoutreachresponsestotheforeclosurecrisis.Sheformerly taught in the economics department atBryn Mawr College, after serving as a researcheconomistinHUD’sOfficeofPolicyDevelopmentand Research. Dr. Newburger has also been aSenate fellow on the Joint Economic Committee,where she worked on housing issues. Her researchhasfocusedrecentlyonFHAandtheNeighborhoodStabilizationProgramand,earlier,onlow-incomehomeownership, including housing search, spatialmobility, the incidence of foreclosure and sheriff ’ssales,anddiscriminationinthehousingmarket.ShereceivedaPhDineconomicsfromtheUniversityofWisconsin–Madison.

Federal policymakers and program officials could take additional steps in designing and implementing the program to help overcome private REO holders’ reluctance to participate.


Endnotes1 This article has its origins in a research project on the

NeighborhoodStabilizationProgramjointlyundertakenbyresearchersacrosstheFederalReserveSystem’sCom-munity Affairs departments. The author would like toacknowledge the contributions of Fed colleagues who,through their extensivefieldwork for theproject andasauthorsofareportontheprojectasawhole,havesup-portedthewritingofthisarticle.DanGorinandKarenLeonedeNiedeserveparticularrecognition.

2 A second roundof funding,$2billion,was included intheAmericanRecoveryandReinvestmentActof2009.Thesuccessiveroundsoffundingarecommonlyknownas NSP 1 and NSP 2. Although both programs oper-ateundertheumbrellaoftheCommunityDevelopmentBlock Grant Program, some program requirements, aswell as the method for allocating funds, differ. In thischapter, we confine discussion to the NSP 1 program,whichwerefertosimplyasNSP.

3 The Community Development Block Grant Programprovides annual funds for community development ac-tivitiestolargercitiesandurbancountiesonanentitle-mentbasis.

4 In developing the formula, HUD incorporated—butdidnotlimititselfto—criteriaspecifiedintheprogram’senablinglegislation.

5 Somestatesawardedfundstonongovernmententitiesaswellastolocalgovernments.

6 Adirectgranteeisalsoallowedtoreceiveindirectfund-ing,dependingon thewaya state setsup its allocationsystem.AsNSPwasimplementedbyHUD,onlyentitle-mentcommunitieswhoseformulaallocationwouldbeatleast $2 million received direct grants; not surprisingly,states like Florida, where the crisis has been mostsevere,havemanydirectgrantees;otherstates,includingsome with large numbers of entitlement communities,have very few.States received aminimumallocationof$20million.Oncedesignated,directgrantees(statesandsomeCommunityDevelopmentBlockGrantProgram–entitlement communities)had to submit an applicationdescribing their NSP programs to HUD and gainapprovalforthembeforeactuallyreceivingfunding,whilecandidatesforindirectfundingsubmittedapplicationstotheirstates.

7 Based on the release date, funds must be obligated bySeptember 2010. Under the terms of HERA, all fundsweretobeusedwithin18months,butHUDregulationssoftened this provision to an 18-month obligation re-quirement.

8 Theterm“partner”isusedbroadlyhere.Itincludesnotonly nonprofit and for-profit organizations, but alsohomebuyerswho,underthetermsofanumberofNSPplans developed by funded jurisdictions, identify fore-closedpropertiesforpurchaseandcometothejurisdic-tionforpurchaseorrehabilitationassistance.

9 Thesamplewasnotchosentobestatisticallyrepresenta-tive of all NSP grantees. However, the communities inthesampleshowconsiderablevariationalongthedimen-sionsofregion,size,andjurisdictiontype.

10Acopyof thedata collectionprotocol is available fromtheauthor.Afull reportontheresearchprojectand itsfindingswillbeavailableinareportscheduledforcom-pletionlaterthisyear.

11GranteesoftenhadmorethanoneA&RcomponentintheirNSPprograms.

12In thisarticlewedonotconsider theprocessbywhich“marketvalue”isset,althoughwenotethatdeterminingthisinthecontextofa“post-bubble”housingmarketmaybeproblematic.

13Theregulationimplementingthischangewaspublishedin the Federal Register in mid-June 2009, about threemonthsafterHUDsignedagreementswithdirectgrant-ees. Difficulty in acquiring property at the higher dis-countratewasoneofseveralfactorscitedforthechange;anotherwasthepotentialnegativeimpactonneighbor-hoodhouseprices ifNSPpropertieswerepurchasedatpricesbelowmarketvalue.

14Some of these requirements were associated with NSPinparticular,somewithfederalhousingandcommunitydevelopmentprogramsmorebroadlyand,inatleastonecase,protectionoftenantslivinginpropertiesthatwereforeclosedon,therequirementappliedtoanyoneunder-takingtherelevanthousingmarketactivities.InadditiontorequirementsaffectingtheeasewithwhichREOprop-ertiescouldbeacquired,granteesidentifiedanumberofotherproblematicrequirementsassociatedwiththepro-gram. Several grantees alsonoted thatHUD’s frequentchangestotheregulationsaddedtothedifficultyofim-plementingNSP.Finally,becauseHUD’sInspectorGen-eralhaddesignatedNSPasahigh-riskprogram,andthusone that would receive particular scrutiny, a number ofgranteesfeltparticularpressuretoensurethattheywereincompliancewithallregulations,afactorthatmayhaveaffectedthespeedofimplementationinsomecases.

15HUD also issued frequent clarifications of regulations.Forexample,itclarifiedthesituationsinwhichgranteescould enter into conditional contracts forpurchaseof apropertypriortocompletionofanenvironmentalreview.

16HUD’s frequent changes and clarifications to its initialNSP regulations likely reflect the short periodgiven totheagencyinNSP’senablinglegislationtogetthepro-gramunderway.

17Of course, the REO market, and the private housingmarketmoregenerally,havebeenchangingrapidlysincethe legislationmandatingNSPwasput intoplace; it isunlikely that allof the changes couldhavebeenantici-patedorthatitwouldbepossibletorespondtoalltheminamannerthatdidnotitselfcausesomedisruptioninprogramimplementation.ButabetterunderstandingoftheREOmarketbybothHUDand itsgrantees,alongwithbettertrackingofmarketchanges,mightnonethe-lesshavesmoothedtheimplementationprocess.

18Wenote that such consultationwould likelyhavebeenusefulnotonlyonacquisitionprovisions,butalsoonpro-visionsrelatedtohomebuyeraids,suchasdown-paymentassistanceorassistancewithrehabilitation.Forexample,banksthattightenedlendingstandardsinresponsetothecrisismaybeleeryofprovidingmortgagestobuyerswhena large part of the down payment does not come fromthebuyers’ownresourcesorwhen thehouse forwhichthemortgageisprovidedneedsconsiderablerepairwork.


Real-estate-owned (REO) and vacant homesresulting from the economic crisis continueto destabilize low- and moderate-incomeneighborhoods across the country. Nonprofitorganizations that seek to redevelop theseproperties facemyriad challenges.The lendersand servicers responsible forREOdispositionare difficult to access, for example, and maybe unwilling to negotiate lower sales prices.Furthermore, many REOs require substantialrehabilitation,andtheoverwhelmingvolumeofforeclosuresaffectstheresalevalueofredevel-opedhousing.

This paper presents a range of strategies thatnonprofit organizations can utilize to addressREO and vacant properties.2 The paperemphasizes theconditionsnecessary forREOredevelopment and discusses how several fac-tors—includinglocalmarketconditions;REOs’geographic distribution, physical characteris-tics,ownership,andlegalstatus;organizationalcapacity;andpublicpolicies—affecttheeffortsof nonprofits to acquire, rehabilitate, sell, andrentREOproperties.Finally,giventheuniquecircumstancesofthecurrenthousingcrisis,thepaperoutlinesseveralalternative,non-redevel-opment strategies that many nonprofits maychoosetopursue.

NonprofitapproachestoREOorvacanthomescan be divided into two broad categories:redevelopment strategies and non-redevelopmentstrategies. Organizations engaged in the for-meracquire,rehabilitate,andrepurposevacantproperties into affordable for-sale, for-rent, orrent-to-own housing. Those taking the latterapproach either facilitate the redevelopmentof vacant housing by responsible buyers or

attempttostabilizeandmaintainvacantprop-erties. Each strategy entails different financialresources,internalcapacity,andexposuretorisk.

All successful nonprofit strategies for REOs,whetherredevelopmentornon-redevelopmentin nature, begin with an understanding ofneighborhood housing demand and the mar-ket for redeveloped housing. Redevelopmentstrategies areoftenmost appropriate in inter-mediate,warm-marketneighborhoods,definedforthepurposeofthispaperasareasinwhichhousing demand has declined but is expectedto rebound. In hotter neighborhoods—areaswith high home prices and strong demand—nonprofits may not be able compete forproperties;moreover,nonprofit redevelopmentmay be unnecessary in these neighborhoodsdue to the presence of private homebuyers.Colderneighborhoods, too,maybeunsuitablefor redevelopment strategies. In these areas,characterizedbyhighlevelsofvacancies,heav-ilydeterioratedbuildings,andlowdemandforrentalandfor-salehousing,redevelopmentmayberiskybecauseresalevaluesarelow.Insteadoftakingapproachesthat involveredevelopment,nonprofits thatoperate inhot-andcold-mar-ket neighborhoods may choose to pursue oneorseveralofthenon-redevelopmentstrategiesdescribedinthisreport.3

In addition to market conditions, nonprofitsshould also account for complications relatedto acquisition, as well as the existence of anypoliciesor fundingthatsupportspecificREOstrategies.Nonprofitsmustalsoconsiderinter-nalcapacityasitrelatestoREOredevelopment.Although the U.S. Department of Housingand Urban Development’s Neighborhood

Nonprofit Strategies for Returning REO Properties to Effective Use1

by Daniel Fleischman


Acquiring properties

through short sales also poses

substantial challenges

to a CDC.

Stabilization Program (NSP) and other gov-ernmentalandprivateeffortsprovidefinancialsupport for REO redevelopment activities,nonprofits should be wary of expanding theirredevelopmenteffortsduringthecurrentperiodofmarketvolatility.

Redevelopment StrategiesFor-sale housing.4Forbothpracticalandideo-logicalreasons,manycommunitydevelopmentcorporations (CDCs) prioritize the devel-opment of for-sale housing over rental andrent-to-ownproperties.5Accordingtoarecentsurvey, for-sale housing was the preferredstrategy of 69 percent of nonprofits engagedin property redevelopment.6The federal first-timehomebuyertaxcreditandhistoricallylowmortgageratesprovidefurtherimpetustonon-profits’ efforts to develop housing for sale toresponsiblehomeowners.

In neighborhoods with concentrated foreclo-sures, however, the development of for-salehousing is risky. Capacity constraints preventmostCDCsfromredevelopingenoughvacanthomestoreversethedeclineofneighborhoodhomevalues,whichjeopardizetheresalevalueof each individual property. To ensure thatresale value will exceed acquisition and rehabcosts, nonprofit organizations should targetpropertyacquisitiongeographicallywithinthecontextoflargerpublicandprivatecommunitystabilizationefforts.

Rental housing.7 A CDC may wish to rede-velop one- to four-unit REOs into rentalhousing for several reasons. First, the neigh-borhoodmayexhibitweakdemandforfor-salehousing,makingrentalhousingtheonlyviableredevelopment strategy. Second, a CDC maydeterminethattheadditionofwell-maintainedrental properties will address a neighborhoodhousing need. Finally, a CDC may choose todeveloprentalhousingaccordingtothebuild-ing typology of the REO.Two- to four-unitrental properties, for example, are particularlysusceptible to speculative and absentee own-ership. By developing and managing these

properties, a CDC can help keep them outof the wrong hands and mitigate neighbor-hoodinstability.

Nonprofits that redevelop REOs into rentalhousingfacesubstantialpropertymanagementchallenges.Resultsfroma1995surveyofprop-ertyowners indicate that less than40percentofone-tofour-unitpropertyownersturnedaprofit in the previous year.8 One approach tohelping ensure profitability is to concentrateproperties geographically and standardizebuilding specifications. In thisway,nonprofitscan reduce the management costs associatedwiththistypeofhousing.9

Lease–purchase housing. In a third strategy,lease–purchase, the nonprofit agrees to rent ahometoatenantforaperiodoftime,afterwhichthetenantpurchasesthehomefromthenon-profit.AsuccessfulexampleofthisapproachisthatoftheClevelandHousingNetwork,whichhas employed the Low Income HousingTaxCredit (LIHTC) to develop lease–purchasehomes and stabilize low-income neighbor-hoodsinCleveland.Aspotentialhomeownersexperience difficulty obtaining financing, andmore homes continue to sit vacant for longerperiods of time, nonprofits may increasinglyturntolease–purchaseasameansofredevelop-ingREOsorsellingpropertiesforwhichtheycannotfindconventionalbuyers.

Barriers to implementing a successful lease–purchase program include the challenge ofshepherding long-time renters toward home-ownership, a process that, if unsuccessful, canleavethenonprofitwithvacanciesandturnoverexpenses while it finds new program partici-pants. Furthermore, development financingfor lease–purchase is complex. For instance,nonprofitsthatwishtoutilizetheLIHTCfordevelopment financing must comply with the15-yearrentalperiodrequiredbeforetheysellthepropertytothetenant.10Furthermore,con-ventionalfinancingmaynotbeavailableforthiscomplexdispositionstrategy.Forthesereasons,manyCDCsavoidlease–purchaseanddeveloponlyfor-saleorfor-renthousing.


Overcoming Acquisition ChallengesThe disposition strategies described aboveassumeaproperty’spotentialforredevelopmentandanorganization’sabilitytoundertakesuchredevelopment.ComplicationsrelatedtoREOacquisition,however,canderailthebest-inten-tioned efforts to redevelop otherwise suitableproperties. Despite increased pressure andfinancial incentives for lenders to sell proper-tiestomission-drivenorganizations,acquisitionremains one of the greatest challenges fornonprofits seeking to redevelop REOs intoaffordablehousing.

NonprofitsthatwishtoacquireREOsfacesev-eral barriers. First, lenders and servicers thatholdREOscanbedifficult toaccessandmaynothavetheauthoritytolowersalepricesdueto fiduciary obligations to investors in mort-gage-backedsecurities.Inaddition,whilesomelenders list their inventoryofREOpropertieson the Internet, the sales themselves are typi-cally facilitated by local brokers who may notbe interested in negotiating discounted pricesfor nonprofit buyers. Complex legal issuescompound these difficulties. If the mortgagehasbeen securitized, the lenders and servicersthemselves may not be certain which party isresponsiblefordisposition.Ifliensontheprop-ertyhavebeensoldtoathird-partyinvestor,orifthecostofliensexceedstheresalevalueoftheproperty,municipalinterventionmaybeneces-sarytoclearthetitlepriortoacquisition.11

Many of the challenges nonprofits face inacquiring REOs can be addressed only withgovernmentalorlarge-scale,institutionalassis-tance.The National Community StabilizationTrust, a national nonprofit, is one such orga-nization that helps facilitate the transfer ofpropertiesfromservicerstononprofits.Throughits “First Look” program, theTrust negotiateswithservicers tooffercitiesandnonprofitsanopportunitytopurchaseREOsbeforetheprop-erties are listed on the open market.12 Localnonprofitsmayalsowishtoexplorethefollow-ing strategies to expedite their acquisition ofREOproperties.

Bulk-Purchase StrategiesStrategiesthatinvolvebulkpurchasesofREOproperties enable both lenders and purchas-erstoavoidthe inefficienciesandhighercostsassociated with piecemeal, retail-level REOsales. Through a bulk purchase, the nonprofitmaygetadiscountedsalepriceonaportfolioofpropertieswhileacquiringacriticalmassforredevelopment. This strategy may also enablethepurchasertosubsidizetherehabilitationofdeterioratedhomeswithprofitsgeneratedfromsalesofmoreintacthomes.

InMarchof2009,thenonprofitHousingandNeighborhood Development Services, Inc.(HANDS),based inOrange,NewJersey,pio-neered an innovative strategy to address theproblems of neighborhoods affected by fore-closures.Itpurchasedabundleof47mortgagesthat comprised a single portfolio of fraudu-lent mortgages, then conducted or oversaw athorough physical inspection, title search, andmarketappraisalforeachhome,assigningoneoffive exit strategies to eachaccording to theproperty’s location, resale value, and physicalcondition.HANDSalsoenlistedsixCDCstoassist with redevelopment, worked with localmunicipalities to ensure that the redevelopedpropertiesareaffordable,andnegotiatedflexiblefinancing from both local and national mis-sion-drivenlenderstofundthiseffort.(Inthispublication, see also “The Community AssetPreservationCorporation:ANewApproachtoCommunityRevitalization,”byHaroldSimon.)

Moreoften,unfortunately, thepropertiesheldbyalenderorservicerdonotlendthemselvestobulkpackaginginthismanner.Thefactthatthe47 mortgages acquired by HANDS were tiedtoasinglelendingscambecameakeypointofleveragethatenabledtheorganizationtoacquiretheentireportfolioatadiscountedpricefromtheservicerwhich,bythen,hadbeentakenoverby the FDIC. Moreover, the mortgages hadnot been securitized, which enabled HANDSto acquire the properties with relative legalease, unaffected by the barriers typically con-frontedwhenpurchasingsecuritizedmortgages.


For these reasons, HANDS’ bulk acquisitionistheproductofuniqueconditionsandisnoteasilyreplicable.

Furthermore, capacity is likely to be a con-straint for most CDCs that wish to executebulkpurchases.FewCDCshavetheresourcestoacquireandredevelopaportfolioofproper-tieslargeenoughtowarrantameaningfulpricereduction from lenders. For this reason, bulkpurchase strategies are more frequently initi-atedbylocalgovernmentsandspecial-purposeentities.In2008,HANDShelpedestablishtheCommunity Asset Preservation Corporation,a special-purpose nonprofit, to help purchaseREO properties in bulk, then to triage andsystematically dispose of them to responsibledevelopers.13Inasimilarmanner,localgovern-mentsmaybeabletopurchasebulkpropertiesfordispositiontononprofitdevelopersbyusingNSPorotherfunding.14

Short SalesShort sales involve what the name implies—sellingshort,oratapricelowerthanthesellerdesires.Thedifficultyliesinfindingsellerswithsomething to gain through a short sale. If anonprofitisabletoidentifyamortgagoratriskofdefault,itcanattempttoexecuteashortsaletoacquirethepropertypriortoforeclosure.Insuch an arrangement, the mortgagor sells thehometothenonprofitforlessthanthevalueofthemortgage,andthemortgageholderagreestoforgiveallorsomeoftheremainingbalanceoftheloan.Themortgageholder’slossistypicallyless thanwhat a foreclosurewould cost, henceitsincentivetoengageinsuchatransaction.Foritspart,aCDCachievesthetwinobjectivesofhelpingadistressedborroweravoid foreclosurewhileacquiringapropertyforredevelopment.

Acquiring properties through short salesalso poses substantial challenges to a CDC.First, short sale opportunities are not typi-callyadvertisedandmaybedifficulttoidentify.Furthermore,investor–ownersinsomehotandwarm markets are likely to outbid CDCs forshort sale properties, and mortgage servicersmaynotbewillingtoofferdiscountedproper-ties to nonprofits. One source of assistance is

a mission-driven mortgage brokerage, whichcan help a nonprofit identify and purchaseproperties at risk of foreclosure. NHS Realty,forexample,amission-drivenbrokerageestab-lished by Neighborhood Housing Servicesof New York City, helps facilitate the sale ofdistressedpropertiestoresponsiblebuyers.15Non-redevelopment StrategiesNonprofits that pursue a non-redevelopmentstrategyforREOpropertiestypicallydosoforacoupleofreasons.First,redevelopmentmaybeinfeasible because of weak market conditions,the legal status of the property, or the capac-ity of the nonprofit. Second, redevelopmentmaysimplybeunnecessary,duetothepresenceof responsible purchasers of REO properties.When redevelopment is infeasible, the CDCmayattempttomitigatethenegativeneighbor-hoodimpactofREOpropertiesbypromotingcodeenforcement,landbanking,and/ordemo-lition. When redevelopment is unnecessary,the CDC may serve to facilitate the sale ofREO properties to a responsible third party.Mitigation and facilitation strategies can eachbeusedasaprimaryapproachtoREOsorasacomplementtoredevelopmentactivity.

Code enforcement.Codeenforcementstrate-gies respond to the failureof some lenders toadequately maintain vacant REO properties.Manycitieshaveenactedvacantpropertyordi-nances toencourage lenders tomaintain theirproperties. While local government providesthemusclebehindcodeenforcement,nonprofitcommunity organizations can participate bydocumentinginstancesofpropertyneglectandadvocatingforincreasedgovernmentalaction.Receivership laws provide municipalities witha more aggressive means of confronting neg-ligent property owners. Through receivership,thecityplacesalienonadeterioratedpropertyand appoints a receiver to execute the neces-sary rehabilitation work. A receivership lien,likeataxlien,supersedesallotherclaimstotheproperty, including themortgage. In thisway,receivershipforcesthelendertoeitherpaythelienorsellthehometoapartywillingtocarryout the terms of the lien. CDCs with strong


community standing have utilized threat ofreceivership to acquire properties from delin-quentservicersandotherabsenteeowners.

Land banking. Land banks are chartered bystategovernmentstoacquire,triage,anddisposeof vacant properties. While most land banksfocus on tax-delinquent or nuisance proper-ties, they may also be permitted to acquireREOsfordemolitionordispositiontoqualifieddevelopers.Additionally,somelandbankshaveresponded to the growing number of vacanthomes by providing management services forpropertiesacquiredbynonprofitdevelopers.In2008,theFultonCounty/CityofAtlantaLandBankintroducedaprogramwhereinanonprofitcantransferapropertytothelandbankforuptothreeyearsifthenonprofitcannotredevelopthepropertyimmediately.Inadditiontoclear-ingexistingliensontheproperty,thelandbankprovides low-cost property management andenables CDCs to purchase available proper-ties quickly and without need for immediateredevelopment. Furthermore, CDCs are notrequired topayproperty taxes forhomesheldby the land bank.16 While land banks requirestate-level enabling legislation and have nottypicallyfocusedonbank-foreclosedpropertiesin thepast, theyarean increasingly importantresource in cities with large numbers of fore-closures.17 (In this publication, see also “HowModernLandBankingCanBeUsedtoSolveREO Acquisition Problems,” by Thomas J.FitzpatrickIV.)

Demolition. Demolitionmaybetheonlyfeasi-blestrategyforREOpropertiesthathavelittleornoreusepotential.18SomeCDCsandcom-munity organizations have worked to maintainor transform vacant lots following the demoli-tionofbuildings.Sincethemid-1990s,theNewKensingtonCDCinPhiladelphia,incollabora-tionwiththePennsylvaniaHorticulturalSociety,has conducteda“greening”program to addressvacantneighborhoodlots.TheCDCeithersta-bilizes lots by cleaning and planting trees onthem,ordevelopsthemascommunitygardens.Sidelotsareofferedforsaletoabuttingpropertyowners.19 Where redevelopment is infeasible,this type of strategy can be a low-cost and

relativelyquickmeansoftransformingpocketsofneighborhoodblightintocommunityassets.

Mitigation and Facilitation StrategiesHomebuyer financing. Providing financing orsubsidies to homebuyers is an effective REOstrategy if the lack of mortgage credit, ratherthanpoorneighborhoodorpropertyconditions,is the primary impediment to redevelopment.Undersuchconditions,anonprofitmayestab-lishamortgagebrokeragetoprovidefinancingto qualified potential homebuyers. Nonprofitmortgagebrokeragesworkwithlendinginstitu-tionstoassembleapoolofsubsidizedfinancingforapprovedlow-incomebuyers.Thebrokeragetypicallychargesfeestocoveritsoverheadcosts.

Dayton’sBluffNeighborhoodHousingServicesinSt.Paul,Minnesota,utilizesanonprofitmort-gagebrokerageaspartofacomprehensiveefforttoaddressneighborhoodREOproperties.Thebrokerageprovidessecondmortgagefinancingof up to 20 percent of the appraised value ofhomesinqualifiedneighborhoods.Participatingborrowersobtainlow-costfinancingandavoidtheneedforprivatesecondmortgagesormort-gageinsurance,eitherofwhichmightotherwisebenecessarydue to tightcredit standardsanddeclininghomevaluesintheTwinCities.Thislending program complements its traditionalacquisition and rehabilitation efforts for moredeteriorated neighborhood vacant properties.While homebuyer financing programs requirespecializedcapacityandarenotappropriateforeverynonprofit,thisalternativetoREOacqui-sition provides a useful tool for organizationsoperatinginwarm-marketneighborhoods.

Neighborhood marketing campaigns. Likehomebuyer financing strategies, neighborhoodmarketingcampaignsaremosteffectiveinrela-tively stable, warm-market neighborhoods. Insome cities, nonprofits and local governmenthave enhanced marketing efforts to addressincreased levels of foreclosures and vacancies.TheCityofRochester,NewYork,forexample,co-sponsorsHomeRochester, anonprofit ini-tiativethatengageslocalCDCsandcontractorstoredevelopvacantproperties.RochesterCity

Many of the challenges nonprofits face in acquiring REOs can only be addressed with governmental or large-scale, institutional assistance.


Table 1REO Strategy Matrix

Market conditions* Building typology Physical condition** Initial CDC action Exit strategy

Hot market Single family Good X*** X

Fair Homebuyer financing/Acquisition Sell to homebuyer

Poor Acquisition Sell to homebuyer

2–4 units Good X X

Fair Homebuyer financing/Acquisition Sell to homebuyer

Poor Acquisition Sell to homebuyer

Warm market Single family Good Homebuyer financing/Acquisition Sell to homebuyer

Fair Consider acquisition Sell to homebuyer/ Hold as rental/ Lease-purchase

Poor Acquisition for strategic properties/Demolition for non-strategic properties

Sell to homebuyer/ Hold as rental/Lease-purchase

2–4 units Good Consider acquisition Hold as rental

Fair Consider acquisition Hold as rental

Poor Acquisition for strategic properties/Demolition for non-strategic properties

Hold as rental

Cold market Single family Good Acquisition Hold as rental/Lease-purchase

Fair Code enforcement Advocate for land banking/ Greening strategy

Poor Advocate for demolition

2–4 units Good Consider acquisition Hold as rental

Fair Code enforcement Advocate for land banking/ Greening strategy

Poor Advocate for demolition

*Market Condition Definitions: Hot market: Housing demand outpaces supply, and prices are high; vacant properties are quickly purchased Warm market: Housing demand has slowed temporarily but is expected to return; vacant properties are eventually purchased Cold market: Housing demand is weak and is not expected to increase significantly; vacant properties sit for prolonged periods**Physical Condition Definitions: Good: Minimal rehab needed Fair: Significant rehab needed, but structure is salvageable Poor: Structure is not salvageable***X indicates that nonprofit intervention may not be necessary


Living Center, another initiative undertakenby the City, markets neighborhoods and spe-cific home-buying opportunities. Rochesteralso underwrites the Home Store, a one-stopcenter administered by the Urban League ofRochester that matches potential buyers withsubsidies and provides credit and homebuyercounseling.20Together,thethreeprogramshelpCDCs redevelop, market, and sell propertiesin target neighborhoods. CDCs operating inneighborhoodswithscatteredREOsmaycon-siderthesestrategiestoincreasemarketactivityforvacantproperties.

The REO strategies described above, and theconditionsunderwhich eachmaybeoptimal,arearrangedintable1inamatrix.21Thetableillustratesthedecision-makingprocessandtherangeofnonprofitinterventionsforREOprop-erties.Foreachscenario,analternativestrategymaybepossibleorpreferable.

ConclusionSeveral characteristics of the current crisis—includingdeclininghomevalues,thelegalstatusof REOs, and the volume of vacant homes—pose challenges to nonprofit organizations.CDCsaccustomedtoacquiringtax-delinquentproperties or homes at or near the bottom ofthemarketmusttakeintoaccounttheuniquerisks and uncertainties associated with REOproperties. Many nonprofits will determinethat non-redevelopment strategies, ratherthan redevelopment strategies, are the moreappropriatecourseofactionformostREOsintheircommunities.

Opportunities for successful redevelopmentstrategies do exist for nonprofits in relativelystable neighborhoods with sufficient capacityandresources.Asstatesandcitiescontinuetodeploy NSP dollars and funding from othersources, nonprofit organizations can exercisetheirknowledgeoflocalconditionstohelpiden-tifyredevelopmentopportunitiesandpartners.While nonprofits can address only a fractionof foreclosuresnationwide, theyplay a criticalrole at the neighborhood level in low-incomecommunities. By accounting for the risks andopportunities of various redevelopment and

non-redevelopment strategies, nonprofits cancontinue to help move these neighborhoodstowardrecovery.

Daniel Fleischman is an affordable housingconsultant in New York City. His research onforeclosures and nonprofit organizations has beenpublishedbytheJointCenterforHousingStudiesat Harvard University and by NeighborWorksAmerica. He has been a research fellow at theJoint Center for Housing Studies, and has heldpositions with an affordable housing developer,an architectural firm, and a nonprofit economicdevelopmentcorporation.DanielholdsamasterofurbanplanningdegreefromHarvardUniversityandaBAdegreeinEnglishandAmericanlitera-turesummacumlaudefromBrandeisUniversity.

Endnotes1 Anexpandedversionofthispaper,“CDCStrategiesfor

REO Properties: An Analytical Framework,” was pub-lished in2009bytheJointCenter forHousingStudiesofHarvardUniversity.

2 TheREOstrategies discussed in this paper are distinctfrom pre-foreclosure efforts to keep borrowers in theirhomes.

3 Several citiesandconsultinggroupshavedevelopedso-phisticatedtypologiesofneighborhoodhousingdemand.See the Reinvestment Fund’s typology of PhiladelphianeighborhoodsandtheCityofBaltimore’sneighborhoodtypologies described in Alan Mallach, Bringing Build-ingsBack:FromAbandonedPropertiestoCommunityAssets(New Brunswick, N.J.: Rutgers University Press, 2006),pp.233–39.

4 Foracompleteguidetoacquisition,rehab,andresale,see“Successful Single-Family Acquisition and Rehabilita-tion:ACompleteOverviewoftheSkillsandOperationsNeededtoRunaSuccessfulProgram”(Columbia,Md.:EnterpriseFoundation,1999).

5 The term “community development corporation” referstoacommunity-based,nonprofitdeveloperofaffordablehousing.

6 Daniel Fleischman,“CDC Strategies forREOProper-ties:AnAnalyticalFramework”(Cambridge,Mass.:JointCenterforHousingStudiesofHarvardUniversity,2009).

7 For a complete guide to scattered-site rental develop-ment, see “Developing and Managing Scattered-siteRentalHousing:ACompleteOverviewoftheSkillsandFinancesNeededtoRunaSuccessfulProgram”(Colum-bia,Md.:EnterpriseFoundation,2009).

8 AlanMallach,“LandlordsattheMargins:ExploringtheDynamics of the One- to Four-Unit Rental HousingIndustry.” Prepared for Revisiting Rental Housing:A National Policy Summit, Harvard University, JointCenterforHousingStudies,2007.

9 For an assessment of scattered-site rental developmentas a response to the foreclosure crisis, see Ivan Levi,


“Stabilizing Neighborhoods Impacted by ConcentratedForeclosures:Scattered-SiteRentalHousingChallengesandOpportunities”(Cambridge,Mass.:NeighborWorksAmerica and the Joint Center for Housing Studies ofHarvardUniversity,2009).

10Practicallyspeaking,theuseoftheLowIncomeHousingTaxCredit todevelop lease-purchaseand scattered-siterentalhousingpresents the additional challengesof as-semblingmultipleparcelssimultaneouslytobundleintoafinancingpackage,payingforfixedlegalandsyndicationcoststhatmaybedisproportionatetothenumberofunitsin the package, and attracting tax-credit buyers willingtoinvestinthesenotoriouslydifficultdevelopmentmod-els.Forthesereasons,theuseofthetaxcredittodeveloplease-purchase and scatter-site rental housing has beenlimited.Seethepublicationreferencedinnote7above.

11Kermit J. Lind, “The Perfect Storm: An EyewitnessReport from Ground Zero in Cleveland’s Neighbor-hoods,”JournalofAffordableHousing17(3)(Spring2008):237–58.

12“Purchasing Properties at Scale: Lessons on AcquiringREOs During the Foreclosure Crisis from PioneeringProjects in New Jersey, Phoenix and the Twin Cities,”LivingCitiescasestudyavailableathttp://www.livingci-ties.org/innovation/rapid/property-acquisition/.

13Morrissy, Patrick, Executive Director, HANDS, Inc.,interviewbyDanielFleischman,July2,2008.

14SeeLivingCities,citedabove.

15Kevin McQueen, “Using Mission-Driven Real EstateBrokeragetoMitigatetheImpactofForeclosures”LivingCitiescasestudy(2009),availableathttp://www.livingci-ties.org/innovation/rapid/brokerage/.

16Kevin Duffy, “Property Sits Like Money in the Bank:Affordable Housing Gets Boost from Agency thatHoldsForeclosedBuildingsUntiltheycanbeDevelopedbyNonprofits,”theAtlantaJournal-Constitution,August23,2008.

17Formoreinformationonlandbanks,seeFrankS.Alex-ander,“LandBankAuthorities:AGuidefortheCreationandOperationofLocalLandBanks”(NewYork,N.Y.:LocalInitiativesSupportCoalition,2005).

18AlanMallach,BringingBuildingsBack:FromAbandonedBuildingstoCommunityAssets(Montclair,N.J.:NationalHousing Institute, 2006), includes a decision tree forproperties inpoorphysical condition.Mallach’sbook isanexcellentresourceonthisissueandonsmallpropertyrehabilitationingeneral.

19Susan Wachter, “The Determinants of NeighborhoodTransformation in Philadelphia: Identification andAnalysis:TheNewKensingtonPilotStudy.”UniversityofPennsylvania,WhartonSchool,2004.

20Mallach,citedabove.21Certain factors, suchas the legal statusof theproperty,

arenotrepresented.


Purchasing Properties from REO and Reselling to Existing Occupants: Lessons from the Field on Keeping People in Place

by Elyse D. Cherry, Boston Community Capital, and Patricia Hanratty, Aura Mortgage Advisors

Low-income communities have been dispro-portionately affected by foreclosures and thepreceding subprime mortgage frenzy. Fallingproperty values have somewhat restored theequilibrium between neighborhood incomesand real estate values and provide an oppor-tunity to repurchase foreclosed properties atcurrent market values at significant discountsoff prior mortgages.With appropriate under-writingand tailoredmortgageproducts,manyforeclosed homeowners and tenants facingevictioncanremainintheirhomes,preventingdisplacement, vacancy, and further neighbor-hooddestabilization.

Inthefallof2009,BostonCommunityCapital(BCC),aCommunityDevelopmentFinancialInstitution1witha25-yeartrackrecordofwork-ing to stabilize low-income neighborhoods,developedapilotprogramitcalledStabilizingUrban Neighborhoods (the “SUN initiative”)to stabilize local families and neighborhoodshardesthit by foreclosure.Through two affili-atesubsidiaries—NSPResidentialLLC,arealestateacquisitioncompany,andAuraMortgageAdvisors, a licensed mortgage lender—BCCacquires foreclosed properties at discountedprices and reconveys them to existingowners and tenants, providing financingthrough 30-year fixed-rate mortgages. BCCaimstostopthedisplacementoffamiliesbeforeevictions occur and to prevent further neigh-borhood destabilization caused by vacant andabandonedproperties.

Boston Community Capital launched theSUNinitiativewith$3.7million.These funds

were used to support property purchases,mortgages, and program administration.Through April 2010, BCC had closed on, orscheduled for closing, more than 60 units offoreclosed housing totaling $6.7 million andresold these properties to their existing occu-pants.Theorganizationhassecured$3.5millioninadditionalequity fromaprivate investor toserveasfirstlossreserves,andiscurrentlyrais-ing$50millioninloansfromprivateinvestorsto support property purchases and mortgageloansinBostonandtheadjacentcityofRevere.BCCestimates these fundswillfinanceup to2,000 units of housing in Boston and Revereoverthenextfiveyears.

SUN focuses on foreclosed units from whichoccupants have not yet been evicted. It com-plements other neighborhood stabilizationprograms in Massachusetts, most of whichfocus on housing stock that is already vacant.Theprogramis scalable, too,givencontinuinghighlevelsofforeclosuresinthetargetneigh-borhoods and property values remaining atthe lower levels that accompany foreclosures.In addition, banks and servicers will have agrowingneedtoreduceREOinventory,whileforeclosed homeowners and tenants will con-tinuetorequireaffordable,market-ratehomes.

ThepremiseofSUNisprettystraightforward:BuyforeclosedhomesoutofREOatdiscountedpresent-market values, and resell them toexistingoccupants.Themainsteps involved—buying, reselling, financing—are handled bytwoofBCC’s affiliates.NSPResidentialpur-chases occupied foreclosed homes at a price


atorbelowpresentvalue, freeandclear, fromfirst and second mortgage lenders at a steepdiscount from the amount of the foreclosedmortgage. Between October 2008 and April2010,forexample,itsacquisitiondiscountaver-aged53percent.NSPResidentialresellsthosehomestotheirexistingoccupants—ownersandtenants—atapricetheycanafford.Ifthebuyerhastheabilitytofinancethepurchaseindepen-dently, the affiliate sells the property for costplusexpensesanda1percentfee.Ifthebuyerneedsfinancing,NSPResidentialwill sell thepropertybacktothematamarkupof25per-centfromitsdiscountedpurchaseprice,usingthemarkuptofundloanlossreservesthathelpsecuretheinvestmentsofBCC’sfunders.

AuraMortgageAdvisors,itsmortgagelendingsubsidiary,receiveditsMassachusettslicenseinJune2009.Auraunderwritesthenewpurchasemortgages with strict underwriting criteria,including a maximum housing expense of

38 percent of household income and/or amaximumdebt-to-incomeratioof48percent.Auraloansthefundsona30-yearbasisatfixedratesonly.Target Market ConditionsThe SUN initiative has focused its efforts onsix low-income neighborhoods in Boston hitwiththehighestconcentrationsofforeclosure:Dorchester, Mattapan, Roxbury, Hyde Park,EastBoston,andRoslindale.Thesecommuni-ties represent less than a third of all housingunits inBoston, butmore than83percent ofthecity’sforeclosureactivity.2Theysharesimi-lar characteristics: housing prices that surgedfrom2003to2006andthenrapidlydeclined;sagging local employment and credit; stablepopulationlevelswith,atbest,modestratesofgrowth;incomesthathavenotkeptpacewithinflation; and high concentrations of aggres-sive and often predatory lending. AccordingtoHomeMortgageDisclosureAct(HMDA)data, more than a third of all purchase andrefinance mortgages made in these six com-munities from 2003 to 2006 were high-costloans,twicetherateofhigh-costlendingintherestofthestate.Together,thesecharacteristicshave contributed to high rates of foreclosuresand steep property value declines, spurringfurther defaults, delinquencies, and neighbor-hooddestabilization.

A key factor in the current foreclosure crisisis the disparity between resident incomesin these neighborhoods and property pur-chase prices. From 2003 to 2006, while rentsand incomes remained relatively stable, salepricesforcondounits,single-family,andtwo-to four-family homes more than doubled,fromanaverageof$159,000toanaverageof$359,000.3These increasescoincidedwith theexpansion of subprime mortgages, a nation-wide interest in investing in housing, and alocal expansion of ownership housing stockowingtotheconversionoftriple-deckerhomesintomultiple condominiumunits. In fact, thesixneighborhoodstargetedbyBCChavehighconcentrationsoftwo-andthree-familyhomesthat have been converted into condominiumsandhaveseenahighincidenceofforeclosure.4

Factors that Make the SUN Initiative Possible

Conducive market conditions. The program operates in neighborhoods where property values increased rapidly during the housing boom and have since fallen an average of almost 60 percent, allowing BCC’s affiliate to acquire properties at discounts.

Strong community partnerships. During its 25 years working in the Boston area, BCC has developed strong partnerships with commu-nity organizations. These existing relationships helped BCC affiliate NSP Residential reach out to tenant organizing groups and legal advocates for help identifying and screening potential clients.

Purchase offers based on market research. NSP Residential does its homework. Along with each purchase offer, it provides REO departments of banks and loan servicers with ZIP code-level detail on the number of foreclosed properties in the neighborhood, recent nearby distressed property sales, and property-level detail on additional issues or conditions that may affect the servicers’ ability to sell the property.

Innovative mortgage products. Aura Mortgage provides previously foreclosed borrowers with mortgage products and services developed to meet their needs.


Unfortunately, this multiplying of housingunitshasexacerbatedtheeffectsofforeclosures,in that multifamily buildings can suffer frommultipleforeclosuresbymultiplelenders.

These factors have contributed to the returnof housing values in these neighborhoods tolevelsmoreinlinewithrentalrates.InBCC’sdealings with lenders and mortgage servicers,we have seen greater receptivity to selling atdiscountsoffcurrentmarketvalues5andanec-dotalevidencethattheyareplacingapremiumoncashpurchasesfrombuyerswillingtoclosequickly.Notsurprisingly,inlightofthefreeze-upinthecreditmarkets, lendersandservicershave also become more willing to work withnonprofitintermediaries.

Partnerships MatterBCCworkswithagroupofcommunityorga-nizations—includingtenantorganizinggroupsCityLife/VidaUrbanaandtheBostonTenantsOrganization, as well as legal advocates suchas Harvard Legal Aid Bureau and GreaterBostonLegalServices—to identify foreclosedhomeownersandtenantswhomightbeeligibleforSUN.Weprovidetheseorganizationswithincome tables and charts showing property-valuedeclinesbyneighborhood;theycanthendiscern whether candidates have income suf-ficient to support a traditional mortgage fora property in their community. Using BCCintake forms, these community partners alsoscreen candidates for personal hardship—forexample,predatory loans, lossofemployment,major illness, etc.—and provide BCC witha referral package that allows us to begin tounderwritethecandidateforamortgageloan.BCC will accept applications from anywherewithinoursix targetneighborhoods,providedthe occupant meets the criteria for personalhardshipandhasanincomesufficienttosup-port a mortgage at current fair-market valuesfor theneighborhood.According toourpart-nering organizations, some 60 percent of theclientstheyscreencanbepre-qualifiedfortheSUNprogram.

Next, a pre-qualified client applies to NSPResidential, for foreclosure assistance. Staff

membersbeginforeclosureandcreditcounsel-ing, which includes all aspects of the client’sfinancialsituation,evaluatingclienttaxreturns,bankstatements,paystubs,andacreditreport.Basedon all of this information,BCCdeter-mines what housing cost a client is able to

Red Light, Green Light:Answers Come Quickly from SUN

A typical potential client comes to SUN after contact with and screening by a referral source. The referral source, one of our partnering community organizations, asks the client about the household’s current income and work situation, where they are in the foreclosure process, how much they have in mortgages on the home, who services the mortgages, and what caused the delinquencies and default. If the client appears to meet SUN’s requirements, the referral source helps the client complete the application and tells them to send it with all attachments to SUN.

Once the application reaches SUN, an intake specialist works with the client to make sure all the required information and supporting materials are submitted and complete; this can take anywhere from two days to two weeks, depending on the responsiveness of the client. Completed applications are then “triaged” using a green-, yellow-, and red-light system to indicate the applicant’s likelihood of meeting the program’s guidelines. Those that appear to be strong applications, or “green lights,” are scheduled for site evalu-ation and inspection, while more questionable ones, the “yellow lights,” are sent to a foreclosure counselor for detail review, evalu-ation, and client interviews. Applications that appear to be beyond our guidelines, “red lights,” are reviewed one more time at weekly management meetings before the referral sources and clients are notified.

Client turnaround time differs by the category of the application. For green lights, we can submit an offer to purchase the property in as little as three weeks. Red lights are usually notified within two weeks. The yellow-light applications take the most time, since they usually require more analysis and several client meetings; decisions on them can take between four and six weeks.

The most difficult turnaround to predict is the response from the bank or servicer. This timeframe can be as short as one week or as long as three months, depending on the servicer’s sale process and requirements. Once an offer has been accepted, however, SUN typically closes on both the property purchase and the resale and mortgage to the client within 30 days.


support,andthenanalyzesthecurrentmarketvalueofthedistressedproperty,basedoncur-rent Multiple Listing Service data. An NSPResidentialpropertyspecialistconductsathor-oughreviewofthehomeforwhichtheclientisrequestingassistance,includingatitlesearch,site inspection, anddiscussionwith the clientregarding any maintenance that needs to bedone. BCC seeks to determine whether theproperty can be acquired at a discount largeenough toallowbuilding ina25percent lossreserve and still provide the client with anaffordablemortgage.

Purchasing Properties from REO: Using Market ResearchOnce BCC ensures the client’s income issufficienttostayinandmaintaintheproperty,itapproachestheloanservicerorREOdepart-mentwithanoffertopurchasethepropertyatfairmarketvalue.Buttheoffercontainsmorethanapurchaseprice.Whenmakinganoffer,BCC provides significant additional informa-tion,includingrecentMultipleListingServicesales data for nearby distressed properties ofsimilar size and condition, together with anyadditional information thatmay influence themortgagee’s ability to sell said property (e.g.,taxliens,neededrepairs,etc.).BCChasdevel-oped an extensivedatabaseofproperty valuesand trends over the past six years—includingforeclosure levelsandtrendsbyneighborhoodandrecent residential realestate sales—whichallowsstafftoestimatecurrentvaluespersquarefoot for distressed properties. A BCC offerletter includes the addresses of comparablepropertiesthathaverecentlysoldandtheaver-agepricepersquarefootfortheseproperties.

This level of detail is critical—especially whenworkingwiththeREOdepartmentofanationalversusalocalbank—tohelpingassetmanagersandservicersmakethecasethattheyaregettingafairpricefortheseproperties.Forexample,aservicer looking at Boston-level data in thefourthquarterof2009wouldseethatcity-widepropertyvalueshavedeclined2percentfromthepeak; however, neighborhood-level data showthatpropertyvaluesinthesesixtargetareashavefallen59percent.6Distressedpropertieswarrant

anadditionaldiscount,typically20–30percent.Alongwiththisdetailedsupportingevidenceforthepurchasepriceoffered,BCC’soffersarecon-tingent on the current occupants remaining intheproperty.Wealsoprovideproofoffunds.Iftheofferisaccepted,BCCagreestopaycashandtoclosein30days.

FromOctober2009throughApril2010,BCCsuccessfully negotiated the purchase of morethan60unitsofhousing,atanaveragediscountof53percentofftheoriginalmortgageamount(discounts vary significantly by property typeandneighborhood).

Onceapurchaseofferhasbeenaccepted,BCCstaff members meet with clients to discusstheirpurchaseandmortgageoptions.Aclientable to obtain financing from another, non-BCCsource(e.g., friends, familymembers,oranother mortgage lender) may purchase thepropertyfromNSPResidentialfortheamountpaidplusexpensesandamodest(1–2percent)transactionfee.Clientswhoneedfinancingforthepurchaseandareunabletosecureitontheirownaredirected toAuraMortgageAdvisors,whichhasdevelopedaseriesofmortgageprod-uctsandservicesdesignedtomeetlow-incomeborrowers’needs.

Experience-Informed Mortgage Products for Low-Income BorrowersIn order to create mortgage products thatwouldmeettheneedsoflow-incomeborrow-ers who had been through foreclosure, BCCsought to understand the root causes of theforeclosurecrisisfromtheperspectiveoffore-closed homeowners. In the summer of 2008,we examined more than 700 title histories ofresidential properties undergoing foreclosureinour targetgeography.Weengaged inmanyindividual conversations and conducted threeformal focus group meetings of foreclosedhomeownersfromBoston,FallRiver,andNewBedford. These various investigations allowedustocreateadetailedandcoherentpictureofborrowers’circumstances.

Themajorityoftherandomlyselectedpartici-pants inour focusgroupsandthemajorityof

The premise of SUN is pretty

straightforward: Buy foreclosed

homes out of REO at discounted

present-market values, and resell them to existing

occupants.


homeownersinthecaseswereviewedinvolvedfirstmortgages.Morethan70percentoffocusgroup participants were first-time homebuy-erswhopurchased theirhomesbetween2003and2006.Insomecases,homeownershaddif-ficultypayingasearlyas thefirstmonthaftermortgagefinance.Stillotherslosttheirhomesbecausearelativelyshort-termpersonalorfam-ilycrisis(e.g.,acaraccidentorspouse’sillness)compromised their ability to keep mortgagepaymentscurrent.

Asmallpercentageofhomeownersrefinancedtheirhomesonmultipleoccasionsandinquicksuccession, trading substantial additional costsandfeesforanew“teaser”ratethat,forashortwhile,reducedthemonthlymortgagepayment.Eventually,however,theseadditionalcostsandfeesencumberedallavailableequityandelimi-nated the possibility of another refinance; atthatpoint, the truecostof themortgagedebtskyrocketed,thehomeownerbecameunabletopay, and the mortgage went into default. Forbothpurchasemortgagesandrefinances,teaserratesledtodefaultsintheinitialmortgageforfirst-timehomebuyerswhohadnoabilitytopaythetrue,ongoingcostoftheirmortgagedebt.

Whatwediscoveredwasthat,althoughhome-ownersreachedforeclosurethroughavarietyofroutes, low-income borrowers face a commonsetofchallengesthatmustberesolvedif theyare to succeed at homeownership and mort-gagerepayment.Low-incomeborrowersarefarmorelikelytosucceedinpayingamortgageontimeandovertimeiftheyhavethefollowing:

• a fixed-rate, properly underwritten mort-gage that ensures a manageable, predictablemonthlypayment

• automatic deposit of paychecks and auto-matic withdrawal of mortgage payments,timedtoensurethatthemortgageisthefirstbillpaideachmonth

• assistancewithbudgeting• up-frontreservestohelpmanagethelackof

afinancial cushionand tocoverunexpectedemergenciessuchasillness,thelossofajob,oremergencyhouseholdrepairs

• educationontherealcostsofmortgagefinanceandofowningandmaintainingahome.

Based on data analysis and these discoveriesfromourfocusgroups,AuraMortgageAdvisorsdevelopedasetofmortgageproductsdesignedto meet the needs of low-income borrowers.All Aura products, for example, are 30-yearfixedmortgageswithnoprepaymentpenalties.Paymentplansrequireautomaticdepositoftheborrower’s paychecks, automatic deduction ofpayments from the borrower’s bank account,andpaymentscoincidentwithpaydays,gener-allybi-weekly.Closingescrowsrequirethreetosixmonthsof real estate taxes, insurance, andcondominium fees, so that financial reservesareavailablerightawayincaseapersonalcri-sis jeopardizes the borrower’s ability to staycurrent. Biweekly payment plans provide oneadditionalpaymenteachyearthatcanbeusedforshortfalls,orforhomerepairswithloanoffi-cerapproval.(Ifnottapped,biweeklypaymentswillreducethetermofthemortgagefrom30yearsto24years.)

Underwriting Standards Specific to Borrowers and PropertiesAuraalsotailorsitsunderwritingtothespecificconditionsofthepropertyandthehomeowner’shousehold.Forexample,ifthepropertyincludesoccupiedrentalunits,BCCwillincludeapor-tion of the rental income in its underwriting,dependingoncurrentoccupancyandtherentalhistory of the units. SUN attempts to ensurethatborrowerincomecoversthemajorityofthemortgage payment, rather than relying heav-ily on rental income. If units become vacant,emergency reserve fundscanbeused tocovergapsuntilanewtenantisfound.SUNalsopro-videsongoingsupporttohomeownersthroughaccesstofinancialeducationresources.Benefitsinclude quarterly follow-ups by loan officers,semi-annualpeergroupmeetings,andseminarsonhomemaintenance,budgeting,andfilingfortaxabatements.Auraclientsmustdemonstrate that theyhaveastableincomeandcanaffordahomeintheirneighborhood,givencurrentrealestatevalues.


All mortgages provide permanent financingfor owner occupants, and are underwritten asfull documentation loans using historicallystandard debt-to-income ratios, albeit witha non-traditional approach to credit scoresdamagedby foreclosure.Mortgagesare issuedonlytohouseholdsinwhichthefixedmonthlymortgagepayment—includingprincipal,taxes,and insurance—equals no more than 38 per-centoftheirgrossincome.Inaddition,housingand debt payments combined must consumenomorethan48percentoftotalgrossincome.Mortgages are not issued with teaser rates,adjustable rates, negative amortization, orsimilarfeatures.Aura’sproductsalsofullycon-form to the FDIC’s Statement on SubprimeMortgageLending.

Avoiding Moral HazardReducingborrowers’mortgagedebt cancauseanger among neighbors who are continuingtopay the full costof theirmortgages. It canalso encourage owners not in foreclosure todefaultontheirmortgagesinordertoachievea

“windfall”—apotentialscenariooftencitedbythefinancialindustryasareasonnottorestruc-ture mortgage loans. In order to avoid thismoral hazard, BCC includes a zero-percent,zero-amortizing, shared-appreciation secondmortgage,whichlimitsreturntotheborrowertoa fractionofeventualappreciationequal tothe principal balance of the new mortgage,dividedbytheoutstandingprincipalbalanceoftheforeclosedmortgage.

For example, if the homeowner’s prior mort-gagewas$300,000andBCCisabletopurchasethe property and resell it to the occupant forapurchasepriceof$150,000,BCCwillplacea shared-appreciation second mortgage onthe remaining$150,000, or50percentof thepriormortgagebalance.Intheeventofresale,thehomeownerwillbeentitled to50percentof the appreciation over his or her BCC firstmortgage.Ifthepropertysellsfor$250,000,thehomeownerwill repayBCCits$150,000firstmortgage,andwillsplittheremaining$100,000evenly with BCC. In the case of tenants

Table 1Two Clients Helped by the SUN Initiative

Client 1: Hyde Park Client 2: Dorchester

Pre-SUN Post-SUN Pre-SUN Post-SUN

Mortgage amount $350,000 $161,930 $326,000 $121,500

Loan-to-value ratio 94% 72%

Mortgage rate 11.25% 6.50% 11.50% 6.50%

Monthly payment $2,522 $1,545 $3,561 $1,063

NSP purchase price $123,559 $94,000

Resale price $153,750 $117,500

Cash from borrower $3,679 $5,540

Capital reserves* $3,130 $3,000

* Reserve amounts vary according to loan size, property taxes, homeowners association fees, etc.


who had no prior mortgage or foreclosure,BCC does not include a shared-appreciationsecondmortgage.Sample Loans Table1showsdataontwohomeownersassistedby theSUNinitiative. Ineachcase,BCCwasabletonegotiatepurchasepricesofthehome-owners’foreclosedhomesatdiscountsofmorethan50percent off the clients’ originalmort-gage amounts. The clients’ new mortgageamounts are less than half their prior mort-gages, and their monthly payments have beencutby40–70percent.

Table2showshowtheaverageSUNclientcom-parestotheaverageCityofBostonhomeowner.Medianfamilyincomeis$57,387,comparedto$86,827. Median property value is $199,531,compared to $419,500. The median monthlyhousing expense for SUN clients before par-ticipatingintheSUNinitiativewas$2,728,or

$376higherthantheaveragemonthlypaymentfor City of Boston homeowners. Post-SUN,clients’ averagemonthlyhousingpaymenthadbeenreducedby$1,165to$1,563,or$789lowerthantheaverageCityofBostonhomeowner’s.

ConclusionFalling property values in low-income neigh-borhoods have helped restore the equilibriumbetweenneighborhoodincomesandrealestatevalues. These now-lower property values pro-vide an opportunity to repurchase foreclosedpropertiesatcurrentmarketvaluesatsignificantdiscounts from previous mortgage amounts.BostonCommunityCapital’spilotprograminBostonandRevere,aimedatpreventingvacan-ciesandhelpingrestoreneighborhoodstability,has resulted in thepurchase, reconveying, andfinancing of 60 foreclosed properties. Mostimportant,theSUNinitiativehelpedoccupantsfacing eviction from foreclosure to remain intheirhomes.Bybringingtheprogramtoscalein

Table 2SUN Clients Compared to City of Boston Homeowners

SUN clientsHomeowners

City of Boston*

Owner-occupied properties **

Median family income $57,387 $86,827

Median property value $199,531 $419,500

Pre-SUN median monthly housing expenses, including mortgages

$2,728 $2,352

Post-SUN median monthly housing expenses, including mortgages

$1,563 $2,352

Average family size 4.29 3.42

Foreign born 47.1% 27.5%

Speak a language other than English at home 47.1% 35.5%

Non-white 82% 43.7%

* 2006–2008 American Community Survey, three-year estimates. See http://factfinder.census.gov. ** These numbers represent 23 units in SUN’s portfolio as of February 2, 2010, including homes of

rent-to-own clients who have not yet closed on their SUN mortgages.


BostonandacrosstheStateofMassachusetts,BCC hopes to demonstrate that a similarprogram could be replicated in low-incomecommunitiesacrossthecountry.

Elyse D. Cherryisaco-founderandcurrentchiefexecutive officer of Boston Community Capital(BCC). She also serves as president of BostonCommunityVentureFund,aBCCaffiliate.UnderCherry’sleadership,BCChasgrownfromastart-uporganization in1984toanationalmodel forcommunityinvestment.Todate,BCChasinvestedmorethan$450millioninlow-incomecommuni-ties,financingmore than9,700affordablehomesand750,000squarefeetofinner-citycommercialreal estate,and creatingorpreservingmore than1,400jobs.CherryisagraduateofWellesleyCollegeand the Northeastern University School of Law.

Patricia Hanratty ispresidentofAuraMortgageAdvisorsandNSPResidential,LLC,bothaffili-atesofBostonCommunityCapital.Dr.HanrattyservedasassistantsecretaryofeconomicaffairsfortheCommonwealthofMassachusettsandhasbeenaprofessorofpoliticalscienceattheCollegeoftheHolyCross.Dr.HanrattyhasaPhDinpoliticalscience and public policy from the MassachusettsInstituteofTechnologyandabachelor’sdegreefromtheUniversityofMassachusettsatBoston.

The authors would like to acknowledge theassistance of Jessica Brooks, Matthew Aliberti,Jessica Herrmann, and Ryan Kim in preparingthisarticle.

Endnotes1 CommunityDevelopmentFinancialInstitutionsprovide

credit,financialservices,andotherservicestounderservedmarketsorpopulations.They include loanfunds,devel-opmentbanks,developmentcreditunions,anddevelop-mentventurecapitalfunds.AccordingtotheCDFIDataProject,inFY2006,CDFIsclosed$4.75billioninloansand investments, which financed 69,893 housing units,8,185businesses,35,609jobs,and750communityserviceorganizations. See http://www.opportunityfinance.net/industry/industrymain.aspx?id=234fordetails.

2 Warren Group CHAPA Town Foreclosure Statistics,January1,2007–November30,2009.

3 BostonCommunityCapital“NSP2ApplicationNarra-tive,”p.5.

4 SeetheNewYorkTimes,June19,2009,“HardTimesforNew England’s 3-Deckers”; and Kristopher S. GerardiandPaulS.Willen,“SubprimeMortgages,Foreclosures,andUrbanNeighborhoods.”

5 Available at http://campbellsurveys.com/housingreport/press_032210.htm.

6 NSP Residential, LLC,“Real EstateValue Declines inTargetNeighborhoodsinBoston,”fourthquarter2009.


The Community Asset Preservation Corporation: A New Approach to Community Revitalization

by Harold SimonNational Housing Institute

Theonslaughtofthemortgagecrisisisfarfromover; the damage to neighborhoods worsensdaily.Millionshavelosttheirhomes,andprop-ertieslievacantandabandonedincommunitiesaroundthenation.Asthesepropertiespileup,especially inlow-andmoderate-incomecom-munities like those in Newark, New Jersey,and its surrounding cities, the need for newapproachestocommunitydevelopmentisevermoreapparent.OnesuchapproachisthatoftheCommunity Asset Preservation Corporation(CAPC)ofNewJersey.

Theorganizationwas conceived anddesignedin 2007 and 2008 as a public-purpose, non-profitorganizationwhosemissionistostabilizefragileneighborhoodsandprotecthomeownersandtenantsfromthetoxiceffectsofthefore-closurecrisis.

TofulfillitsmissionCAPC• Buyspropertyintheforeclosuretrackquickly

andatmeaningfulscale• Preservestheassetsandfinancialintegrityof

at-riskresidenthomeowners• Maintainsproperties topreserve their value

andminimizeneighborhoodharm• Returns properties to productive use in an

equitablemanner• Builds collaborations with for-profit, non-

profit,andmunicipalpartners.

Theinitialgoaloftheorganizationwastorecoverupto1,500livingunitsinthefirstfivetosevenyears. CAPC acquires pools of nonperform-ingresidentialmortgages(notes)orforeclosed,real-estate-owned (REO) residential property

in low- to moderate-income communities,primarily in urban Essex County, New Jersey.The properties are then returned to produc-tive use through a variety of exit strategies,including:• Sale to nonprofit or for-profit affordable

housingdevelopers• Saledirectlyintothemarket• Demolition• Landbanking• Rentalconversion• Shared-equityhomeownership.

The elements of CAPC are all replicable andscalable.They includebulkpurchases, a value-assessmentmodelbasedonthecostsandlikelysales of each property, a proactive asset-man-agement program, a non-traditional financingstrategy,andamixed-marketdispositionstrat-egybuiltonthevariousexitoptionsnotedabove.

The Need for CAPCNationally, the number of foreclosed homesis staggering—and growing. In 2008, CreditSuisseprojectedthat,bytheendof2012,morethan 8 million mortgages will be foreclosedon.1ThenumberofU.S.residentialpropertiesreceivingatleastoneforeclosurefilingjumped21percentin2009toarecord2.82million.2

Although foreclosures affect every corner ofthe country, they are especially devastating tolow-incomeandminoritycommunities.3AsofDecember2009,intheEssexCountymunici-pality of Newark and its bordering cities ofOrange,EastOrange,andIrvington,therewere3,465 properties in foreclosure.4 Preliminary


analysis indicates that at the current pace offilings, more than 6,500 properties will havebeenatsomepoint intheforeclosurecycle inEssexCountyin2009,makingtheNewarkareaNew Jersey’s foreclosure hot spot.5The rippleeffectoftheseforeclosures, intermsof lossofmarketvalue,abandonment,andneighborhooddestabilization,isdevastating,undoingdecadesofrevitalizationeffortsandstrippingthehard-wonassetsofthousandsoflow-incomefamilies.

Inresponse,considerableresearchandprogramactivities that focus on foreclosure preventionhavebeenundertaken.Butdespitetheseefforts,millions will lose their homes. The nationalStateForeclosurePreventionWorkingGroup,which tracks loan-mitigation efforts by 13 ofthe 20 largest subprime mortgage servicers,found in 2009 that six out of 10 loans werenot involved in any work-out process.6 Moredisturbing is an evaluation of loan-mitigationefforts that showed 56 percent of modifiedloans falling back into foreclosure within sixmonths.7Withthedownturnofthereal-estatemarket continuing, many of these foreclosedpropertieswillbecomevacantandabandoned.

While an isolated foreclosure may not have asignificantimpact,theforeclosureriskfromsub-prime loans is far from isolated. InNovember2009, 52 percent of owner-occupied homeswithsubprimeloansand32percentofowner-occupiedhomeswithAlt-AloansinNewJerseyweredelinquent,inforeclosure,orREO.8

Asthenumberofcompletedforeclosuresgrowsin already-weak markets, these bank-ownedproperties are frequently abandoned, leadingtoincreasesincriminalactivity,healthhazards,and fires, while destabilizing and diminishingthevalueofanentireneighborhood.9

Abandonmentandblightcontinuetoposehugechallenges for both community developmentcorporations and local government agencies.Dealing with the diffuse ownership of theseabandoned properties, coupled with the legaldifficultiesofacquiringtitle,requiresaspecificskill set that is costly and time-consuming to

develop. The acquisition and productive andequitablereuseofthesepropertiesareprovingtobeverydifficulttasksformany.

Atthenationallevel,thefederalgovernmenthasmadelargesumsavailablethroughprogramstopreventthelossofhomestoforeclosureandtorecoverpropertieslosttoforeclosurethathavebecome abandoned.10 These programs, whichhave not yet reached the scale necessary tomakeasignificantimpact,arestillbeingrefinedandexpanded.11

Even with sufficient resources to managethis problem, without adequate planning andcapacityatthelocallevel,muchofthisfundingwillnotaccomplishtheintendedgoals.Tomeetthesenewchallenges,organizationswithdeepknowledge of local real estate markets, expe-rience in housing development and finance,and strongpublic/private partnership agendasare needed to change the course of the fore-closuretsunami.

A Tragic Opportunity in Orange, New JerseyThe city of Orange is typical of many older,urbanized inner-ring suburbs. It was once acommunity of single-family homes, statelyapartmentbuildings,andthrivingcommercial,manufacturing,andretaildistricts.

Forthreedecadesfollowingthe1967Newarkriots,thecityofOrangesawitseconomicbasedecline, homeownership plummet, and pov-erty rise dramatically, and suffered the ills ofhigh crime, poor schools, and the increasingabandonment and vacancy common in suchenvironments. By 1996, the city’s popula-tion had fallen to nearly 33,000 from 39,000in1950, thepoverty ratewas20percent, andapproximately400homeswereabandoned.12

At that point, one of the leading communitydevelopmentcorporationsinthestate,Housingand Neighborhood Development Services(HANDS)Inc.ofOrange,committeditselftoreducing the number of abandoned homes inOrangethroughaprocesstheycallhigh-impact

HANDS reduced Orange’s vacant and abandoned

homes from 400 in 1996 to fewer

than 40. But in 2007, the

subprime crisis began to undo

that success.


developmentforlong-termsustainablechange.Thisprocessbeginswithanannual inspectionof each abandoned residential property in thecity, after which HANDS identifies pivotalpropertieswiththegreatestpotentialtocatalyzeneighborhood change. Properties are assessedfortheirimpactonsurroundinghomesandthelevelofexistingcommunityresponse.13Often,these properties have been abandoned formanyyears,partlybecauseofamorassoftitleproblems, including unresolved mortgage andtax liens.To accomplish their goals, HANDSdevelopedin-houseexpertiseincuringeventhemostcomplextitleproblems.14

Over the following decade, HANDS reducedOrange’s vacant and abandoned homes from400in1996tofewerthan40.Butin2007,thesubprimecrisisbegantoundothatsuccess.

Searching for the source of these new fore-closures, HANDS identified a pool of 47nonperforming mortgages on properties scat-teredaroundthestate,butprimarilylocatedinfragileneighborhoodsinNewarkandborderingcities.Themortgageswereheldinportfoliobyasinglelender.

Atthesametime,theauthorandasmallgroupof experienced real estate, affordable housing,and community development professionals(including the executivedirectorofHANDS)began to identify ways to deal with the com-ingfloodofREOproperties.Wedevelopedtheoutlinesofaneworganization,theCommunityAsset Preservation Corporation.15 CAPC’sapproach would be a significant departurefrom the way nonprofits usually approachedabandoned property remediation, and so, tosecure funding, we would need to prove thatour concept was sound.16 Together, HANDSandCAPCrecognized that the acquisitionofthese mortgages presented an opportunity forsuch proof. We developed a project, dubbedOperation Neighborhood Recovery, and inthe spring of 2008 HANDS and the nascentCAPCjoinedeffortstopursuethepurchaseofthesemortgagenotes.

A Blueprint for Neighborhood RecoveryThe 47 mortgage loans were part of a largerreal estate fraud and subsequent bankruptcycase. All of them were in serious default, butthe lender had not yet initiated foreclosureproceedings.At the time, foreclosures inNewJersey,ajudicialforeclosurestate,tookupto18monthstocomplete.

Many of the properties were vacant anddeteriorated, creating significant safety risksand financial loss to their communities andneighbors. None were owner-occupied.HANDS–CAPCapproachedthelendertofindawaytominimizeharmtotheneighborhoodsduring the anticipated long duration of theforeclosureprocessandreturningthepropertiestoproductiveuse.

Following initial negotiations, HANDS–CAPC offered to purchase all 47 loans, afterwhich, through foreclosure and other legalmeans, itwould expeditiously clear title to allof them, maintain the properties, and pay allmaintenance and carrying costs during thetitle-clearanceperiod.Weanticipated that theprocess,frompurchasetotitleclearance,couldtake up to two years. Once HANDS–CAPChad clear title to the properties, we wouldmovequicklytoimplementanexitstrategyforeachproperty.

Exit Strategy Drives All DecisionsToestablisharealisticvaluationoftheseprop-erties,HANDS–CAPCandthelenderagreedin 2008 to enter into a 45-day exclusive duediligenceperiod.During this time,HANDS–CAPCconductedtitlesearchesandperformedcomprehensive physical inspections to deter-mine rehabilitation costs;worked closelywithalocalrealestatefirmtodevelopmarketassess-mentsandanalysestodeterminecurrent“as-is”valuesandresalevaluesafterrehabilitation;andevaluated the costs of carrying and managingthepropertiesthroughforeclosureaswellasallcostsrelatedtoexecutingtheforeclosures.17


Theduediligencerevealed:• Ofthe47properties,38werelocatedinNewark

and its bordering cities.The remaining ninewerescatteredaroundthestate.The47prop-ertiesrepresentatotalof93livingunits.

• Eightpropertiesrequireddemolitionbecauseofsubstantialfiredamageorbecausetheircondi-tionmaderehabilitationprohibitivelyexpensive.

• Sixteenneededmajororgutrehabilitation.• Twenty-three properties were located in

neighborhoodsthatwereindistress.• Sixwereoccupiedby tenantswhowerenot

payingrent.• The average cost of rehabilitation/renovation

foreachpropertynotdemolishedwas$76,000.• The initial estimated cost of clean-out and

securitywas$105,000.

The potential sale price of each property wasassessed under a variety of scenarios, anda likely exit strategy was determined foreach. According to the plan developed byHANDS–CAPC,• Fourteenpropertieswouldbesoldtohome-

buyers or responsible private investors atmarketrate.

• Eight properties would be demolished andthe sites would be land-banked or redevel-opedasnewhousing.

• Twenty-fivepropertieswouldbeconveyedtoCDCsorotheraffordablehousingdevelopersatarationalsalepricetoallowforaffordabil-itywithminimalpublicsubsidy.

Thelocalrealestatemarketatthetimewasinflux.Homevaluesweredroppingandforeclo-sureswereontherise.Whiletransactionswerestill occurring in New Jersey, the absorptionrate of for-sale homes was weak and variedwidelythroughouttheregion.Manypotentialhomebuyers were having difficulty qualifyingformortgages, further reducing sales.Wehadtoconsiderarentaloption,withongoingman-agementcostsbuiltintothecalculations.

Based on this demand-side model, HANDS–CAPC made an offer to the lender and, aftersomenegotiation,apricewasagreedupon.Thepurchase closed in March 2009. HANDS–CAPC immediately secured each property,

How Did Operation Recovery Get Funded?

The potential funders of this project had great confidence in HANDS, a 25-year-old CDC with an impressive track record of accomplishments, an expert development and real estate staff, a healthy balance sheet, and significant assets under manage-ment.18 However, the $3.6 million funding HANDS–CAPC sought for Operation Neighborhood Recovery was not entity-level funding but narrowly defined project funding, which would make underwriting a challenge. Beyond the unknowns typically associated with housing development in distressed communities, we were contending with plummeting housing values and properties that were abandoned, deteriorated, and scattered across the state. Perhaps most chal-lenging to investors accustomed to having their loans secured by property was the fact that HANDS–CAPC would be purchasing notes, not REO.

Although the prospective funders of Operation Neighborhood Recovery understood the importance of this pioneering work, they required more assurance. One of them, New Jersey Community Capital, suggested an 80/20 debt-to-equity facility, offering 52 percent of the equity if HANDS contributed the remainder. The high first-loss ratio, along with priced-to-risk debt, provided enough assurance to the other funders—Prudential Social Investments, LISC, Enterprise Community Partners, and NeighborWorks America—to bring the deal to conclusion.

Debt is usually senior to equity. As money was earned by selling properties after title was secured, investors would be paid back. Debt investors (senior) would receive their money before (subordi-nate) equity investors. The payments were based on a formula. If there was loss, equity investors would take the first loss.

The interest rate on loans, comprising the debt portion of a funding arrangement, can range anywhere from zero percent (for example, with forgivable loans from a foundation) to the current market rate for high-risk commercial loans. HANDS did not receive a special interest rate on the debt; the rate was based on the level of risk determined by the underwriting, or assessment of the project’s like-lihood of being completed successfully; in other words, debt was priced to risk.

A limited liability corporation, of which HANDS was the managing partner and an equity investor, was also created. The investment capital facility was designed to provide funds to the corporation for loan purchases, title clearance, property maintenance and manage-ment, and carrying costs. Forward subsidy commitments from local municipalities and Essex County were secured.


Targeted neighborhood stabilization is not easily achieved with this model unless there are also strategic collaborations among nonprofit, for-profit, and government partners.

providedemergencyrepairsforcurrenttenants,andbegantheprocessofgainingtitle.

Building a CDC CollaborativeIntegraltotheCAPCconceptisthepurchaseofpools ofpropertyornotes.Suchpurchasesare efficient and can reduce transaction costssignificantly.The seller can include propertiesunlikely to sell (in some cases, with negativevalue)andthebuyercanreceivesomeproper-tiesthatmaysellatahigherprice,perhapsatmarketrate,whicheffectivelycreatesaninter-nal subsidy for our organization’s affordablehousingcomponent.Thisalsoprovidescashtoallowdebttobedrawndownearly,whichhelpsensuretheorganization’sfinancialsustainability.

Buttargetedneighborhoodstabilizationisnoteasilyachievedwiththismodelunlesstherearealso strategic collaborations among nonprofit,for-profit, and government partners. It wasclearattheonsetthatsuchpartnershipswouldbevitaltotheproject’ssuccess.Duringtheduediligenceperiod,thelocationofeachpropertyslatedforredevelopmentasaffordablehousingwas matched to the footprint of a nonprofitorganization. Six community developmentcorporations (CDCs) were invited to form acollaborative with HANDS-CAPC.19 Duringthe title-clearance period, the CDCs helpedmonitor, maintain, and protect the value oftheproperties.

Oncecleartitlewassecured,eachCDCwouldpurchase the units within their footprint andrehabilitate them for affordable housing.20

And each would be responsible for arrang-ing subsidy, acquisition, and constructionfinancing in advance of the purchase. Earlydiscussions included representatives from theCity of Newark and surrounding municipali-tiesaswellasEssexCountygovernment,allofwhomagreedtoprovidesupportasthetransac-tionprogressed.

Asset ManagementTheCAPCmodelstressesearly,ongoing,andconsistentassetmanagementatalevelsufficientto counteract the neighborhood destructioncaused by empty, deteriorating properties. As

soon as legally possible, CAPC cleans andsecureseachproperty,makesemergencyrepairs,and works with tenants to create safe homes.When necessary, it provides relocation assis-tanceandadditionalappropriateservices.21

Outcomes of Operation Neighborhood Recovery to DateOneyearafterthepurchaseclosed,thedispo-sition of these 47 properties is well ahead ofschedule.Foreclosureproceedinghavebeenini-tiatedontwooftheproperties,fourhavetitlecomplicationsthatarebeingresolved,andcleartitlewasacquiredfortheremaining41,primar-ilythroughdeedin lieu.Ofthese41,24havebeensoldtoCDCsormission-basedfor-prof-its,eightareundercontract,andninearebeingrehabbed by HANDS-CAPC. In total, about70percentofthepropertieswillultimatelybedevelopedasaffordablerentalsandhomes.

To date only about $2.6 million of the $3.6million of available funding has been used.The rapid acquisition of title to the major-ity of the properties and the sale of many ofthem resulted in a significant amount ofcost savings and allowed HANDS-CAPCto pay down early almost $1 million of thedebtused.

Moving ForwardIn late 2009, as the work with HANDS onOperationNeighborhoodRecoveryprogressed,CAPC began merger discussions with NewJerseyCommunityCapital, the leadfunderofOperation Neighborhood Recovery and NewJersey’slargestcommunitydevelopmentfinan-cialinstitution,orCDFI.AligningwithNJCCwould give CAPC statewide reach, a robustbalance sheet, and existing relationships withmany public, private, and nonprofit organiza-tions.Amerger of the twoorganizationswasrecently completed, with CAPC becoming asubsidiaryofNewJerseyCommunityCapital.

As a statewide organization, CAPC todaycontinuestopursueamixed-marketapproachthatrelieslessonpublicsubsidythanoninter-nalsubsidiesandefficienciesofscaletocreateaffordablehousing.Pivotal tothisapproachis


CAPC’sdemand-side valuationmodel,whichisdrivenbyexitstrategy,deepunderstandingoflocalmarkets,andcloseworkingrelationshipswithothermission-basedorganizations.

CAPCispursuingitsbulk-acquisitionstrategyintwoways:• In March 2010, CAPC completed a pur-

chaseof10REOpropertiesfromJPMorganChase. As of July 2010, the organizationwasnegotiatingwith lenders andGSEs foradditionalpools,bothREOandmortgages,rangingfrom10unitstomorethan75.

• CAPC is a New Jersey state coordinatorfor the National Community StabilizationTrust’sFirstLookprogramtoacquireREOproperties.22 In mid-October 2009, CAPClaunched the program in the Newark areaandlaterthroughoutthestate.AsofMarch2010,CAPChadworkedwith28groupsin137ZIPcodesandfacilitatedaccess to360REO properties, including 130 in EssexCounty.CAPCisalsonegotiatingapossiblepurchaseof25to30REOpropertiesdirectlythroughNCSToverthenextsixmonths.

While northern New Jersey has been theproving ground for CAPC and the organiza-tion continues to focus much of its attentionthere, it is also working closely with munici-palitiesacrossthestateandwithNewJersey’sDepartmentofCommunityAffairs.

CAPCisalsoengagedinothercollaborationsaimed at neighborhood revitalization. CAPCandtheHousingandCommunityDevelopmentNetworkofNewJersey,forexample,establisheda collaborativeofneighborhoodorganizationsto work on NSP1 and NSP2 projects. NewJerseyCommunityCapital/CAPCisprovidingfinancing and technical assistance to membergroupsandishelpingtocoordinatetheiruseofNSPfunds.23

To facilitate efficient purchase and construc-tionefforts,CAPCanditsparent,NewJerseyCommunity Capital, are developing financ-ing strategies, including a state-supportedrevolvingacquisitionfund,aNewMarketTaxCreditprogram,and,incollaborationwiththe

nonprofit grantees of the Newark area NSP2program, a $15 million revolving loan pool.The grantees have committed up to 10 per-cent of their allocations as a first-loss reserveto the facility.24 In June2010,CAPCsecureda $3 million financing commitment from theNational Community Stabilization Trust’sREO Capital Fund and a $1 million financ-ing commitment from Community HousingCapital,aNeighborWorksAmericaCDFI, tocreatearevolvingproperty-acquisitionfund.

Lessons Learned Money talks. Overthepastyear,anincreasingnumber of investors have entered the marketfor bulk purchase of notes and REO proper-ties. Many are operating at a scale far largerthanCAPCandoveramuchwidergeography.Needless to say, they are better financed andable to deploy funds faster than most non-profits doing this work.To compete, even onasmallerscale,CAPCandotherorganizationsneed ready, flexible, entity-level financing.25Suchfinancingcancomefromjudicioususeofgovernmentsubsidydollarsaimedatguarantydebt, mission-related or impact investments,and access to equity markets. As long asorganizations like CAPC are constrained byproject-based funding, overly stringent andcostly underwriting, and heavy reliance onunleveraged subsidy, their reach will nevermatchthescopeoftheproblem.

Exits drive all decisions. Many of the ele-mentsoftheCAPCvaluationmodelresemblethe net-present-value model established bythe National Community Stabilization Trustandothers.CAPC’sapproachdiffersinthatitisdrivenby thedemandsideof theequation.Nomatterwhat themodeledpricewouldbe,the maximum price CAPC could pay for thepropertiesfrompurchasetodispositionwouldbetheamountthatallowsthedealtobedonewiththesmallestsubsidypossible.Thisvalua-tionmodelrequiresstartingattheend:Whatisthelikelydisposition,orexitstrategy,foreachproperty? It also demands clear-eyed assess-mentofallcostsassociatedwiththeprojectandaccurateappraisalofcurrentmarketconditions.


An open-minded approach helps. There maynever be enough affordable housing in stateslike New Jersey. There certainly isn’t enoughnow.Decidingtodevelopbothmarket-rateandaffordablehomesisnoteasyformanyorgani-zationscommittedtomaximizingthenumberofaffordableunitscreated.Butbysellingsomeunitsatmarketrate,theorganizationwillreal-ize returns that can support the creation ofmoreunitsthanwouldotherwisebepossible.

A little goes a long way. States should deploytheir housing assets to maximize productiv-ity. As noted earlier, one important way isto redirect funds as first-loss guaranties toattract private equity and support homebuyermortgages. States should also create fundingstreams for the bulk acquisition of properties.The $2.6 million acquisition facility used forCAPC’s Operation Neighborhood Recoverypilotprojecthadnopublicfundsandleveragedapproximately $15 million in development; itproduced93livingunits.

Public policy should boost development efforts. States and municipalities can use subsidies toencourage collaboration among public andprivate organizations. Cities especially shouldcarefullyassess theirvarieddevelopmentproj-ectsandconcentratetheirprioritiestoleverageeachproject’sfundingstream.Partnershipsarevital.Pooledcapacityandresourcesshouldthusbeencouragedandrewarded.

The community development field has pro-duced remarkable changes over thepast threedecades, under circumstances whose difficultyeasilyrivaltoday’s.Butthescopeandspeedofdestructionbroughtonby the foreclosureandeconomic crises challenge us to develop newwaysofrespondingthatincorporatenewermar-kettoolsanddisciplinesbutaredrivenby—andstay true to—mission.The Community AssetPreservationCorporationisonesuchway.

Harold Simon isexecutivedirectoroftheNationalHousing Institute and publisher of Shelterforcemagazine. He has been with NHI since 1993,increasingtheorganization’sresearchcapacityanddeveloping Shelterforce into a premier national

journal on affordable housing and communitybuilding. In 2007 and 2008, he helped conceiveand launch the Community Asset PreservationCorporationofNewJersey.SimonisagraduateoftheCityUniversityofNewYork’sHunterCollege.

Endnotes1 CreditSuisse,“ForeclosureUpdate:Over8MillionFore-

closuresExpected,”December4,2008.Thisprojectionisconsistentwithcurrentdata.Availableatwww.nhc.org/Credit%20Suisse%20Update%2004%20Dec%2008.doc

2 RealtyTrac, January 14, 2010. Available at www.realty-trac.com.

3 Daniel McCue, “The Painful Impact of the HousingDownturn on Low Income and Minority Families,”Shelterforce36(2):24–29(2009).

4 KatheNewman,“TheForeclosureProject—NewJersey,”RutgersUniversityWorkingPaper,2010.

5 Newman,citedabove.6 StateForeclosurePreventionWorkingGroup,“Analysis

ofMortgageServicingPerformance,DataReportNo.4,”Washington, D.C.: Council of State Bank Supervisors,January2010.Thiswasaslightimprovementover2008(DataReportNo.2),wherethegroupreportedthatsevenoutof10loanswerenotinvolvedinanyworkoutprocess.

7 “OCC and OTS Mortgage Metrics Report,”December 2008. Available at www.occ.treas.gov/ftp/re-lease/2008-150.htm.

8 Newman,citedabove.9 TempleUniversityCenterforPublicPolicyandEastern

PennsylvaniaOrganizingProject.“BlightFreePhiladel-phia:APublic-PrivateStrategy toCreateandEnhanceNeighborhood Value” (2001). Available at http://www.temple.edu/rfd/content/BlightFreePhiladelphia.pdf;DanImmergluckandGeoffSmith,“TheExternalCostsof Foreclosure:The Impact of Single-Family MortgageForeclosures onPropertyValues,” Housing Policy Debate 17(1) (2006), available at http://www.mi.vt.edu/data/files/hpd%2017(1)/hpd_1701_immergluck.pdf;andDanImmergluck, “The Impact of Single-family MortgageForeclosures on Neighborhood Crime,” Housing Stud-ies 21(6) (2006), and Foreclosed (Ithaca, N.Y.: CornellUniversityPress,2009).

10The programs include the Home Affordable RefinanceProgram, the Home Affordable Modification Program(fundedthroughtheTroubledAssetReliefProgram),theHousing Finance Agency’s Hardest-Hit Fund, and theHome Affordable Foreclosure Program. See also H.R.3221,The Housing and Economic Recovery Act of 2008, sec-tion2301,“EmergencyAssistancetotheRedevelopmentofAbandonedandForeclosedHomes,”andH.R.1,“TheAmerican Recovery and Reinvestment Act of 2009,”TitleXII,pp.100–12.

11“October Oversight Report: October 9, 2009, “An As-sessment of Foreclosure Mitigation Efforts after SixMonths,” submittedunderSection125(b)(1) ofTitle 1of theEmergencyEconomicStabilizationActof2008,Pub.L.No.110–343.

12U.S.CensusandtheHousingandNeighborhoodDevel-opmentServices,Inc.


13TheroleofHANDSistoleveragecommunities’invest-mentdecisions,bolsterpublic-sectoraction,andgener-ate more private-sector investment. For HANDS, thelevelofcommunityattentiontoaproblemproperty—forexample, calls to police or complaints to town councilmembers—isanindicationofthepotentialforcatalyticchangerevitalizingthepropertywouldhave.

14Intransitionalneighborhoods,for-profitdevelopersshunpropertieswithdifficult titleproblemsbecause theyarecostlytoresolve.Thesepropertiesremainabandonedforyears,evendecades,astaxandotherlienspileupandthepoisonthatresultsfromabandonmentaffectssurround-inghomes.

15Alan Mallach, Harold Simon, and Patrick Morrissy,“CreatinganEntitytoPreserveIndividualandCommu-nity Assets from Subprime Foreclosures,” unpublishedconceptpaper,January2008.

16TheseeffortswereledbyDianeSterner,HaroldSimon,Patrick Morrissy, Wayne Meyer, Alan Mallach, andBridget MacLean-Lai. Early support was provided bytheFord,F.B.Heron, JPMorganChase,Victoria, andCitibankfoundations.

17HANDS-CAPCengagedanattorneyexpertinreales-tatetransactions,includingforeclosures,andalsoreceivedsignificantprobonosupportfromGaryWingens,AllenLevithan,KennethZimmerman,JohnWishnia,andoth-ersfromthefirmofLowensteinSandler.

18At the time, Wayne Meyer was the housing directorforHANDS.

19TheCDCcollaborativeeventuallyincludedBrandNewDay,EpiscopalCommunityDevelopment,LaCasaDeDonPedro,NewarkHousingPartnership,UnifiedVails-burgServiceOrganization,andHomeCorp.

20An important element of the valuation model was todetermineareasonablesalepriceofthepropertiestopar-ticipatingCDCs.Thatpriceneededtobehighenoughto cover HANDS-CAPC expenses but low enough toensure a fair return to the CDCs, while requiring thesmallest public subsidy possible to make the homesaffordabletolow-andmoderate-incomefamilies.

21In several cases, HANDS-CAPC helped secure socialservices and emergency housing assistance, not only tolegaltenantsbutalsotosquatterfamilieswhowouldoth-erwisebecomehomeless.

22CAPC serves as the point of contact for programparticipants in the state and facilitates the flow ofinformation between the participants and NCST. Theprogram provides nonprofit organizations and mission-based for-profit developers the opportunity to acquirerecentlyforeclosedbank-ownedpropertiesatadiscountandthroughanexpeditedpurchaseprocessbeforethosepropertiesgoonthemarket.CAPCalsoparticipatesinNCST’srecentlylaunchedcapitalgrantprogram.

23An important venue supporting collaboration in thegreater Newark area is the Essex/Newark ForeclosureTaskforce.Earlyon,theCAPCconceptandOperationNeighborhoodRecoverywerepresentedtothePropertyRecovery Working Group of the task force. All of theONRcollaboratorsparticipatedintheworkinggroup.

24The Newark Collaborative received a $22 millionNSP2award.

25InJerseyCityandmanyotherU.S.cities,privateinves-torsarenowpurchasingREOpropertieswithinhoursoflisting.Theycomewithcashinhand,readytoclose.


Whenitcomestoneighborhoodstabilization,the primary problem policymakers face todayis not falling homeownership rates or houseprices,thoughattentionoftenfocusesonthese.Themorefundamentalproblemisthegrowingnumbersofvacanthomes.Today,nearly19mil-lionhomesnationwidearevacant,andboththefor-saleandfor-rentvacancyratesareatornearrecordhighs.1Pricesandneighborhoodscannotstabilize unless households are able to remainintheirhomesandthevacancyrateisreduced.

It is tempting to perceive the vacancy prob-lemasan“oversupply”ofhousing,whether inspecific areas or nationwide. Yet millions ofAmericansareunabletoaffordtheirhomesandarebeing evicted. Ifwehave toomuchhous-ing,whyshouldthesefamilieshavetomoveinwithothersorbecomehomeless, andwhyarehundredsofthousandsmorealreadyhomeless?Unlikeagriculturalcommodities,whichcanbeeasilyremovedfromthemarkettohelpstabilizeprices, removing vacant homes—either proac-tivelyorthroughneglect—fromresidentialuseinallbuttheworst-hitneighborhoodsnotonlydestroysthehousingbutalsocandetractfromthevalueofneighboringproperties,leadingtofurtherinstability.

For policymaking, it is better to view thevacancyproblemasadeficitofhouseholdswill-ingandabletobuyorrentandsustainhomesontheirown,ratherthanasanoversupplyissue.From this deficit-of-households perspective,the overarching questions for policymakersbecomemorepositive.Howdowekeepcurrenthouseholdsindependentlyhoused?Atthesametime, how can we add to their numbers? Toaddress thecurrentoverhangofvacanthomes

and stabilize the housing market as broadlyaspossible,weneed tonotonlykeepexistinghouseholdsintheirhomesbutalsotoincreasethenumberofhouseholdsintheU.S.sothatitapproaches115millionasquicklyaspossible.2

Thisarticlearguesthat,inordertoachievetheseoutcomes,policymakersatall levelsofgovern-mentmustputagreateremphasisonrentersandrentalhousing than theyhave in thepast.Themajorbarriertothisapproachisthatafteryearsof focusing on raising homeownership rates,policymakers at all levels are unaccustomed toseeingrentalhousingasasolutiontoanycom-munityproblem.Fortunately,anumberoflocalandfederalpolicieshavebeguntoshowtheway.

Vacancy and the Lagging Demand for HousingDuring the growth of the housing bubble inthefirsthalfofthisdecade,thenation’shousingsupply increased aheadofdemand.Accordingto the Housing Vacancy Survey, in the firstquarterof2010, the for-rentvacancyratewas10.7percentandthefor-saleratestoodat2.6percent,near-recordhighsforbothindexes.

Afterremainingjustbelow8percentformorethanadecade,thefor-rentvacancyratebegantoincreasedramaticallyin2001,reaching10.4percent in thefirstquarterof2004, thehigh-est rate since the series began in 1956 (seefigure 1). Renters were moving into owner-shipandtakingadvantageoflowinterestratesandloosercredit.Astheylefttherentalsector,however, theywerenot replacedbynew rent-ersatthesamerate.Thoughatfirsttherewasacorrespondingdecreaseinthefor-salevacancyrate, as new construction and conversion of

Embracing Renting to Accelerate Neighborhood Recovery

by Danilo PelletiereNational Low Income Housing Coalition


existing buildings to for-sale housing pickedup, the rental vacancy rate subsided, and thefor-sale vacancy rate grew from 1.8 percentto2.9percentbetween2004and2008.Thiswasahistoricalhigh for that seriesaswell, repre-sentingan increaseofnearly1millionhomesforsale.

Afterthehousingbubbleburstin2007,build-ingcontinuedforatimeandvacantunitswereincreasinglyofferedforrent.Atthesametime,the unemployment rate grew to more than10 percent, limiting the demand for housingin general.3 In this environment, the rentalvacancyrateonceagainshotupward, tomorethan11percent.

From the perspective of the entire housingindustry, theproblemof vacancy continues toworsen.CensusBureauestimatesfromthefirstquarter of 2010 showed 131 million units ofhousingandonly112millionhouseholds(thatis,occupiedhomes)inthecountry,resultinginagrosshousingvacancyrateof14.5percent.4Almostadecadeearlier, inthefirstquarterof

2001, thegrossvacancy ratewas11.9percentand the average for all quarters from 1990through2000was11.4percent.More impor-tant, the gross vacancy rate has continued itsupward trend even in recent quarters, whenboth the for-rent and for-sale vacancy ratesdipped. The total number of distressed andvacanthomeshas continued to grow asmorehomesarebeingdelayedintheforeclosurepro-cess,addingtotheswellinginventory.5

The country’s vacancy problem can certainlybe attributed in part to overbuilding in areaswherehousingdemandneverfullymaterializedas expected and topopulation loss from localeconomicshocks.Butnationwide,thepopula-tion continues to grow. What’s happening toexplainthis?Thedemandforhousinghasbeentempered by a decline in the “headship rate,”the rate at which the number of householdsincreaseswithpopulation.6Anumberofrecentreports have highlighted the growing num-bersofhouseholdsmovingintogetherandtheincreasedhouseholdsizesandratesofcrowdinginthepastfewyears.7Inthepastdecadealone,

Source: NLIHC calculations U.S. Census Bureau Housing Vacancy Survey Data

Figure 1 National Vacancy Rates By QuarterQ1 1989 – Q1 2010

0

2

4

6

8

10

12

14

16

Vacancy rate, percent

Gross vacancy rate

For-sale vacancy

For-rent vacancy

20102005200019951990


theincidenceofmultigenerationalhouseholdswithinthepopulationhasclimbedtolevelsnotseensinceWorldWarII.8Firstinresponsetohigherhousingcostsandforeclosureandthentothecurrentrecession,familiesandindividu-alswhopreviously lived alone—including thegrowing ranks of the elderly—have increas-ingly “doubled up.” Perhaps more important,the number of new households—defined asnewlyestablishedhouseholdsofindividualsorfamilies9whopreviouslylivedwithothers,werehomeless, or are new immigrants—enteringthehousingmarkethasdeclineddramatically.Thisdropisareflectionoffewerchildrenleav-ingtheirparents’homesandtherecentslowingofimmigration.10

The most important factors in boosting thenation’s headship rate are economic recov-ery and policies that increase employmentandminimize lossof income,suchasextend-ing unemployment insurance. Income andjob securityhelpcurrenthouseholdsmaintaintheir homes; similarly, families and individu-als within larger households are more likelytomoveoutontheirownwhenthey,andthehouseholds they are leaving, are economicallysecure.11Policymakerscanspeeduphouseholdformation with housing policies that reducethecostsassociatedwithestablishingandmov-ing into one’s own household. This is whereshiftingattitudesinfavorofrentalhousingwillbedecisive.

A Focus on Renting Can Boost Housing DemandThe first step to stabilize housing marketsreeling from the foreclosure crisis is to keepas many current residents in their neighbor-hoods as possible, preferably in their ownhomes.Suchactionswillminimizethedisrup-tion to communities, schools, and of coursethe households themselves.This has certainlybeenafocusofpolicyinreactingtothecrisis.However, at all levels of government, policyaimed at stabilizing existing households dur-ing this crisis has focused largely on helpingownersmaintainownershipthroughmortgagecounseling and loan modification programs.Rentershavenotbeenaprimaryfocusofsuch

policies.Andwhilemanyhouseholdshavebeenhelped by these programs, success nationwidehasbeenlimited.12

One concern with this homeowner-focusedapproach is that owner-occupiers are not theonlyones indistressor facingevictiondue toforeclosure and turmoil in housing markets.Nationally, as many as 20 percent of proper-tiesinforeclosureand40percentofhouseholdsfacingevictionduetoforeclosuremayberent-ers.13 Many of the properties in distress andforeclosureorvacantaresingle-family(definedasone-tofour-unit)buildingsthatwerepur-chased or refinanced during the bubble andrented out. More recently, larger commercialmultifamilypropertieshave alsobegun show-ing signs of distress.14 Another concern witha homeowner-focused policy approach is thatmany distressed homeowners never had theresources or financial prospects necessary tosustain homeownership without assistance,such as from politically unpalatable write-downs of mortgage principal balances.15 Therecession has only increased the number ofhouseholds unable to sustain homeownershipintheforeseeablefuture.

However, while many of these householdscannot afford the payments and maintenancecosts for their current homes, they can affordrentsinnearbymarkets.16Householdsthatcanmake an ownership-to rental transition thatinvolves renting the house they currently livein or moving to a rental property elsewherein the community can keep their children inthe same schools, shop in many of the samestores,andaccessthesameinstitutionstheydidas owners, minimizing community as well ashouseholdupheaval.

With existing households shored up by theaddition of an owner-to-renter conversionstrategytoexistingstabilizationtools,thesec-ond step in stabilizing a community involvesencouraging new households to move intovacant homes. To date, the major focus ofmost local and federal programs has been onattracting new, first-time homebuyers to thecommunitythroughdownpaymentincentives

In periods of uncertainty, renting provides tenants with greater flexibility to scale their housing consumption up or down as their circumstances change.


Renters are an integral

part of most communities, and

keeping rental properties

occupied is as much a concern

to the recovery of these places

as maintaining homeowner

occupancy.

and subsidized purchase–renovate–resell pro-grams.Atthefederallevel,therehasalsobeenaseriesoffirst-timehomebuyertaxcredits.

A challenge facing any program aimed atboostingthenumberofnewhomeownersisthelaggingeconomy.Thesuccessoftheseprogramsispredicatedonachievingalevelofhomeown-ership thatwasdifficult to achievebefore therecession,whencreditwaseasyandlabormar-ketswere stronger.Moreover,households thatchoose and qualify to be new homeownerstodayarenotlikelytobenewhouseholdsatall,butratherexistinghouseholdsthatarecurrentlyoccupying rentalhousing.Asdiscussedabove,somerentaldemandmaybecomingfromexist-ing households moving from ownership intorental;thesearelikelyhouseholdsthatrecentlysuffereda foreclosureor job loss, forexample,aswellasothersmakinglifestylechoices,suchasseniorsmovingoutofthehomeswheretheyraised their children. But these households’moves,eitherfromrentaltohomeownershiporviceversa,arenotpartofincreaseddemandforhousingoverall.Infact,withoutanewhouse-holdtotakeitsplace,thecommunity(or,morebroadly,thenationalhousingmarket)issimplyswappingonevacancyforanother.

Where can new households come from? Themostlikelyprospectsareyoungpeoplewhoaredoubleduporlivingathome,andrecentimmi-grants.Thesetwogroupsarealsomorelikelytorent thantoown.Ingeneral, thegrowingagegroups in the population are those under 35andthose65andover,bothtraditionallycon-sideredagegroupsthataremorelikelytorentorenduplivingwithotherswhentheymove.17Providing—and making these groups awareof—affordablerentingoptionsmayincreasethelikelihoodthattheywillchoosethisoption.Asrecentexperiencehasshown,extremelylenienttermsanddownpaymentrequirementsencour-agedsomenewandre-emerginghouseholdstomove directly from shared or rental housingintoowner-occupancy.However,evenwithoutquestioningthewisdomofsuchamove,afterthe pushing of credit and ownership duringtheboomandthesubsequentincreaseincredit-damaged households, it must be recognized

thatthereisnolongeralargepoolofpotentialnew households with access to the financ-ing necessary to make the jump directly intohomeownership.

In addition to young people and immigrants,the other pool of potential new householdsconsists of those returning to the housingmarket after aperiodof livingwithothersorbeinghomeless,perhapsfollowinganevictionordivorce.Aseconomicallyrecoveringhouse-holds, often with damaged credit and limitedincome,thesehouseholdsappearlikelytorentwhentheyreturntothehousingmarket.Thosewhorecentlyenduredaforeclosuremayalsobereluctant or unable to pursue homeownershipinthenearfuture.

A final reason why new households appearmore likely to turn to renting versus home-ownershipintheearlystagesoftheeconomicrecovery is that homeownership is inherentlymore difficult to enter and exit than renting.Inthecurrentmarket,withnearlyaquarterofAmericansingle-familyhomeswithmortgagesinnegative equity,18 it seems likely thatmanyhouseholds,eventhosewhoareeligibletoown,willchoosetorentfortheforeseeablefuture.19

Inperiodsofuncertainty,rentingprovidesten-antswithgreaterflexibilitytoscaletheirhousingconsumptionupordownastheircircumstanceschange.Renterscanmovetotakeadvantageofemploymentandotheropportunitiesatalowerup-frontcostthanhomeowners.Suchbenefitscan limit households’ preference for owner-ship.Inaddition,someeconomistshavearguedthatahighrateofhomeownership ingenerallimitslabormobility,increasesjoblessnessdur-inganeconomic transition, and slowsgrowthmoregenerally.20

Theupwardtrendinrenterhouseholdgrowth,inthefaceofgrowingvacanciesanddeclininghouseholdheadshipnationwide,reflectsthefactthatrentersaregrowingasbothanumberandasaproportionofallhouseholds.Renterswereresponsible for thenet increase inhouseholdsfrom the fourth quarter of 2006 to the firstquarterof2010,adding2.6millionhouseholdsagainstadeclineof698,000ownerhouseholds


inthesameperiod.Inthefirstquarterof2010,renterscomprised33percentofallhouseholdsnationally,upfromanhistoriclowof31percentinthefourthquarterof2004.21

Addressing Policy Challenges Thebiggestchallengetohousingpoliciesplac-ing greater emphasis on renting is that fordecades a growing homeownership rate was atop-line indicator of success for a neighbor-hood or community.This simple metric neverreally accounted either for the numerous vitaland stable mixed-tenure and majority-renterneighborhoods across the country or for thesignificantfailurerateamonglow-incomeown-ers at sustainable homeownership, even priorto thecurrentcrisis.22Thiscrisishasbegun tounderminethebeliefthathomeownershipisasufficient contributor to neighborhood stabil-ity.Manyoftheneighborhoodshardesthitbyforeclosures,infact,werethosewiththehighestratesofownership.23

Today,thechoicefacedbyanincreasingnumberof communities is no longer between a rentalandanowner-occupiedproperty;itisbetweenanoccupiedrentalhomeandavacantproperty.Communities are seeing previously owner-occupiedhomesconverttorentals,formallyandinformally, contributing to a conundrum formany:While rentalhomesare farmoredesir-able than vacant homes, these communitiesoftenlackthestaffandtheinstitutionstoregu-laterentalhousingwithoutdiscouragingit.24

Another barrier to a greater policy emphasison rental housing stems from the fact thatbanks own a significant proportion of vacanthomes.25 Historically, banks have not been inthebusinessofmanaging rentalproperties. Inan age of national and international bankingand securitized loans, banks must overcomesignificant inertia to develop this capacity,oftenwithoutlocalmarketknowledge.Policiesto address these challenges should includestepped-upenforcementofbank-ownedhomesand technical assistance that focuses onbeinggoodlocallandlords.

Challenges are not exclusive to reluctantpolicymakers, localofficials,and lending insti-tutions. Local nonprofit organizations oftenare motivated to pursue rental strategies buthavedifficultyacquiringrentalpropertiesusingexistingresources.Evenwherefundingisavail-able,theyoftenlackexperiencemanagingrentalhousing, particularly scattered single-familyhomesandproperties traditionallyownedandmanagedbysmall“momandpop”landlords.26

Indeed, there is an overall dearth of well-financed, capable, responsible, long-termlandlords.Fewcommunitiesrecognizeorsup-port these landlords where they exist, andmany actively discourage them with stepped-upinspectionsandhighertaxrates(costs thatareoftenpassedon to tenants).Anypolicy toencouragerentingshouldincludearequirementthatlandlordsbeaccountable,27butshouldalsoinclude incentives that reward good landlordbehavior and support struggling rental own-erswithtrainingand,wherepossible,low-costfinancingandreducedtaxes.

Policies and ProposalsRecentpoliciesthatseektoencouragerentinginvacantanddistressedhousingfallintoafewdistinctcategories.Inthefirstcategoryarepoli-cies designed toprovide short-termassistanceto renters affected by the foreclosure crisis.TheProtectingTenantsatForeclosureAct,forexample, which was passed on May 20, 2009,allowsbonafidetenantstooccupythepropertyuntiltheendoftheleasetermexceptiftheunitissoldtoapurchaserwhowilloccupytheprop-erty,andprovidesallsuchtenantswith90daysnotice prior to eviction. Similar state provi-sionsexistinNewJersey,Ohio,andtheDistrictofColumbia.

Another federal program, the HomelessnessPrevention and Rapid Rehousing Program,passed as part of the American Recovery andReinvestment Act of 2009, directed $1.5 bil-lion in funds to renter households in need ofshort-termassistancetoremainintheircurrenthomesandtodisplacedownersandrenters inneedofhelptomovequicklyintoanewhomeintheircommunityandavoidbeingdoubledup


or in the shelter system.28 Similar short-termemergencyassistanceexistswithstateandlocalfunding nationwide, though these funds areoftenthreatenedbythetightfiscalconditionsatthestateandlocallevel.29

In the second category are policies aimed atproviding longer-term assistance to renters.Thesepolicies,manyintheproposalstagesnow,employ renting as a strategy for keeping dis-tressedhomeownerswithintheircommunities.For example, an own-to-rent policy proposalfrom the Center for Economic and PolicyResearchwouldsimplyprovideallunderwaterownerstheoptionofgivinguptitleandbecom-ingmarket-raterenterswithalong-termlease,perhaps as long as five years.30 A bill alongtheselines—theRighttoRentActof2010—wasintroducedonApril15byRepresentativeRaul M. Grijalva of Arizona. Similar legisla-tion has been introduced at the state level,with recent bills in the Arizona31 and NewJerseylegislatures.32

TherehasbeenrelatedactivityatFannieMaeand Freddie Mac, the government-sponsoredentities currently under government conser-vatorship. Formally, both agencies now offerhouseholds the option to rent at the end ofthe foreclosure process. While the FreddieMac program offers a lease after foreclosure,thecurrentFannieMaepolicyhasthehome-ownersignaleaseandvoluntarilytransferthepropertydeedback toFannieMae through adeed in lieu of foreclosure. Avoiding foreclo-surereducescostsforFannieMaeandshouldlimit the damage to the homeowner's creditand future financial opportunities. The houseis leased back at a market-rate rent to thehomeowner,whomustliveinthehomeashisprimary residence.Tobeeligible,ahouseholdmustshowproofthat,whileitcannotafforditscurrentmortgage,itcanaffordtherent,whichFannielimitstonomorethan31percentofthehousehold'sgrossincome.33

Another approach involves a third partypurchasingahomeatsomepoint inthefore-closureprocess inorder to rent itback to theowner. This kind of “rescue” transaction has

been associated with mortgage fraud; never-theless,anumberofcommunitieshavebegunto experiment with programs that providefunding and support to nonprofit groups toundertakesuchtransactions.InNewJersey,theMortgageStabilizationandReliefAct,passedin December 2008, established a $15 millionhousingrecoveryprogramthatwillhelpnon-profits buy dwellings from homeowners whocannot afford their mortgages, then lease thehomes back to homeowners for up to sevenyearswhiletheyrecoverfinancially.

Athirdcategoryofneighborhoodstabilizationpolicies seeks to provide rental housing thatresultsfromtheforeclosurecrisis.Oneapproachinvolvespurchasingmultifamilybuildingsthatare foreclosed and vacant, mostly vacant, orsoontobevacated,forthespecificpurposeofprovidinglow-incomerentals.Somecommuni-tieshaveundertakensuchprojectswithdollarsfrom the federal Neighborhood StabilizationProgram, which requires that some funds bespentonlower-incomehouseholdsandrentals.

Programs to turn scattered-site housinginto rentals are more complicated. Much ofthis activity is purely private and conductedby speculative investors; it has led to com-munity concerns and the need for new localpolicies.34 But local community developmentorganizations from Chelsea, Massachusetts,to Cleveland, Ohio, to Chula Vista,California,haveundertakensuchprojects,andNeighborWorks America has begun offeringaclass in scattered-site rentalmanagement toincrease the capacity of local groups to suc-ceedinthisrealm.35Someprogramsexplicitlyseektohouseformerlyhomelessfamilies,36forinstance,whilesomeseektoprovideaplannedtransitiontoownership.37

At the federal level, theCenter forAmericanProgressrecentlyproposedaprogrambasedontheHomeOwnershipLoanCorporationrentalprogramsetupintheGreatDepression.38The1930sprogramwasmeanttoestablishamar-ketforhousesthatcouldnotbeeasilysold.Notonly did renting the homes generate incomefor the corporation, but a verifiable cash flow


and rent-paying tenants also provided a clearindication to homebuyers and investors thatthehousinghadmarketvalue—anaddedben-efit of renting vacant homes versus allowingthemtositvacant.Inthisvein,theCenterforAmericanProgressprogramproposesto“con-vertalreadyforeclosedhomesowneddirectlybythefederalgovernmentintothoroughlyenergyefficient, affordable rental homes that can beresoldasportfoliosofrentalproperties topri-vate investors.”39Theproposal’sauthorsreasonthat homes that have been repaired, weather-ized, and rented should sellmorequicklyas aportfolioandcommandahigherprice than ifspeculatorspurchased theproperties singly. Inaddition, they argue that the program wouldboost employment (and perhaps housingdemand)bycreatingjobsinrepairing,retrofit-ting,andmanagingforeclosedhomes.

Finally, a policy that should also be underconsiderationisonethatinvolvesfederalhous-ing vouchers and local rent supplements thatenable and encourage households, particularlythosedoubledupandhomeless,toliveontheirown in rentalproperties.Thiscouldbeoneofthe most important policies to help familiesas neighborhoods and the housing marketrecover.Additionalvoucherscouldsignificantlyboostdemand forhousingwhile also stabiliz-inghouseholds.Whilegeneralvoucherswouldlikely serve this purpose well, programs tar-geted specifically at doubled-up andhomelessuppopulations,similartotheVeteransAffairsSupportive Housing voucher program, wouldmostdirectlyincreasehousingdemand.

Conclusion Recognizingcurrentrentersandstabilizingcur-rentrentalpropertiesshouldbeanecessarypartofanyneighborhoodstabilizationplan.Rentersarean integralpartofmostcommunities,andkeepingrentalpropertiesoccupiedisasmuchaconcerntotherecoveryoftheseplacesasmain-taining homeowner occupancy. Moreover, thenewandreturninghouseholdsthatareneededtoreducevacancyandstabilizeneighborhoodsaremostlikelytoberenters,whetherbychoiceorfromnecessity,atrendthatisalreadyobserv-able.Plansandpoliciesthataccommodatejust

owners, whether directed at the recovery orinstitutedpreviouslyandforotherpurposes,willnothelpallthehouseholdsthatneedassistanceandwillonlydelayareturntohigheroccupancylevelsandhousingmarketvitality.

Danilo Pelletiere is research director of theNational Low Income Housing Coalition.Previously, he held positions at George MasonUniversity, the World Resources Institute, andVirginia’s Center for InnovativeTechnology. Dr.PelletierereceivedaBAinregionalsciencefromtheUniversityofPennsylvaniaandaPhDinpublicpolicy from George Mason University, where hecontinuestoteachandconductresearchattheSchoolofPublicPolicy.

Endnotes1 National vacancy statistics cited throughout this report

comefromtheCensusBureau’sHousingVacancySurvey.Recent and historical data are available at http://www.census.gov/hhes/www/housing/hvs/hvs.html.

2 This three-million increase in households should beconsideredaroughorderofmagnitude,basedonapply-ingtheaveragegrossvacancyrateof11.4percentforthe1989–2000periodtothecurrenthousingsupply.

3 GaryPainter,“WhatHappenstoHouseholdFormationin a Recession?” (Washington, D.C.: Research InstituteforHousingAmerica,2010).

4 TheCensusBureaudefinesthegrossvacancyrateasthepercentageoftotalhousinginventorythatisvacant.Therate iscomputedwiththe formula (Allvacantunits/Allhousingunits[occupied+vacant)]*(100).Thismeasureincludes seasonalproperties. It is possible to calculate agross year-round vacancy rate that excludes these units,but this distinction does not affect the trend and con-clusions discussed here. Further, it is likely that manysecondandvacationhomeswereoriginallypurchasedasfirsthomesor investmentproperties,supportingtheuseoftheCensus-definedgrossvacancyrate.Seealsohttp://www.census.gov/hhes/www/housing/hvs/annual09/ann09def.html.

5 According to the Census Bureau’s Housing VacancySurvey,thenumberofunitsheldoffthemarketincreasedby211,000betweenthefirstquarterof2009andthefirstquarterof2010.Thenumberofvacantfor-rentunitsin-creasedby297,000andthenumberoffor-salevacanciesfellby107,000.Morerecently,itseems,for-saleinvento-rieshaveincreasedaswell.SeeJamesR.Hagerty,“Hous-ingInventoriesRiseinManyCities,”WallStreetJournalDevelopment Blog, May 10, 2010. Available at http://blogs.wsj.com/developments/2010/05/06/housing-in-ventory-rises-in-many-cities/.

6 More formally, the headship rate is the inverse of theaveragehouseholdsize.

7 Rob Collinson and Ben Winter, “U.S. RentalHousingCharacteristics:SupplyVacancyandAffordabil-ity.”WorkingPaper10-01(U.S.DepartmentofHousing

Today, the choice faced by an increasing number of communities is no longer between a rental and an owner-occupied property; it is between an occupied rental home and a vacant property.


andUrbanDevelopment,OfficeofPolicyDevelopmentandResearch,2010);andGaryPainter,citedabove.

8 Paul Taylor and others, “The Return of the Multi-Generational Family Household” (Washington, D.C.:PewResearchCenter,2010).

9 Afamilyisformallydefinedastwoormorepeople,relat-edbyblood,marriage,oradoption,livinginonehousingunit.Ahousehold,definedasanygroupofpeoplelivinginonehousingunit,maybemadeupofasinglefamily;singlesorgroupsofunrelatedindividuals;multiplefami-lies;oramixofindividualsandfamilies.

10TheStateoftheNation’sHousing2010(CambridgeMass.:Joint Center for Housing Studies, Harvard KennedySchool,2010).

11GaryPainter,citedabove.12See, for example, United States Department of the

Treasury,“MakingHomeAffordableProgram:ServicerPerformanceReportthroughJanuary2010,”availableathttp://www.financialstability.gov/docs/press/January%20Report%20FINAL%2002%2016%2010.pdf; James R.Hagerty,“AnOddWaytoMeasuretheSuccessofMort-gage Mods,” Wall Street Journal Development Blog, athttp://blogs.wsj.com/developments/2010/03/16/an-odd-way-to-measure-the-success-of-mortgage-mods/;andNeilMayer,PeterA.Tatian,KennethTemkin,andCharles A. Calhoun, “National Foreclosure MitigationCounseling Program Evaluation: Preliminary AnalysisofProgramEffectsNovember2009”(Washington,D.C.:UrbanInstitute,2009).

13Danilo Pelletiere, Renters in Foreclosure: Defining theProblem, Identifying Solutions (Washington, D.C.:NationalLowIncomeHousingCoalition,2009).

14Congressional Oversight Panel report, “CommercialRealEstateLosses and theRisk toFinancialStability”(Washington,D.C.,2010).

15Loan modifications, including principal write-downs,maybepreferableforsomedistressedowners.Thispaperdoesnotarguethatrentingisaone-size-fits-allsolution,but the success rate of loan modification programs hasnotbeenhigh,andthereremainconcernsaboutsubsidiz-inghomeownership to thisdegree,not least forwhat aprincipalwrite-downbasedonthebuyers’circumstanceswithoutrelationtomarketvaluesmaydotosurroundingpropertyvalues,alongwiththepotentialforsomeoftheseassistedownerstoreapsignificantprofitsasaresultwhentheyselltheirhomes.Householdsthatcannotmaintainhomeownershipwithoutsuchasubsidyshouldbeassist-edinmakingthetransitiontorentalhousing.

16Anumberofrecentmediastorieshavechronicledhouse-holdsthatlefttheirownedhomeandmovedintothesameneighborhoodasrenters,forexample,MarkWhitehouse,“AmericanDream2:Default,ThenRent,”theWallStreetJournal, December 16, 2009. Recent publications alsolookat typicalcurrentrentalandhomeownershipcosts.See, for example, Danilo Pelletiere, Hye Jin Rho, andDean Baker, “Hitting Bottom? An Updated AnalysisofRentsandthePriceofHousingin100MetropolitanAreas” (Washington, D.C.: Center for Economic andPolicyResearchandtheNationalLowIncomeHousingCoalition, 2010) orTrulia.com, Rent vs. Buy Index, athttp://info.trulia.com/index.php?s=43&item=91.

17Jack Goodman, “The Changing Demographics ofMultifamily Rental Housing,” Housing Policy Debate

10(9):31–58(1999); JointCenter forHousingStudies,America’sRentalHousing:TheKeytoaBalancedNationalPolicy (Cambridge, Mass., 2008), and The State of theNation’sHousing2010(Cambridge,Mass.,2010).

18“Underwater”referstoasituationinwhichahouseholdowes more on its home than it is worth. Julie Haviv,“RPT-Trend of U.S. mortgages ‘underwater’ grows–Zillow”(London:Reuters,May10,2010).

19Andrew Haughwout, Richard Peach, and JosephTracy,“The Homeownership Gap,” Federal Reserve Bank ofNewYork,CurrentIssuesinEconomicsandFinance16(5)(May2010).

20AndrewJ.Oswald,“TheHousingMarketandEurope’sUnemployment: A Non-Technical Paper,” DepartmentofEconomics,UniversityofWarwick,U.K.(May1999),available at www2.warwick.ac.uk/fac/soc/economics/staff/academic/oswald/homesnt.pdf.

21U.S.BureauoftheCensus,HousingVacancySurvey.22Donald R. Haurin and Stuart S. Rosenthal, “The Sus-

tainability of Homeownership: Factors Affectingthe Duration of Homeownership and Rental Spells”(Washington, D.C.: U.S. Department of Housing andUrbanDevelopment,2004).

23Danilo Pelletiere, “Recognizing Renters in the Fore-closureCrisis:ChallengesandOpportunities”(presentedat the Ralph and Goldy Lewis Center for RegionalPolicy Studies, University of California-Los Ange-les,2009);andKeithE.WardripandDaniloPelletiere,“NeighborhoodPovertyandTenureCharacteristicsandtheIncidenceofForeclosureinNewEngland,”ResearchNote#08-02,NationalLowIncomeHousingCoalition,June2008.

24SarahTreuhaft,KalimaRose,andKarenBlack,“WhenInvestorsBuyUptheNeighborhood:PreventingInvestorOwnership from Causing Neighborhood Decline”(Oakland,Calif.:PolicyLink,2010).

25Estimates of the housing stock currently owned bybanksasof lateApril2010rangefromaround500,000to over 750,000. See James Hagerty, “Debate Ragesover Supply of Foreclosed Homes,” Wall Street JournalDevelopment Blog, available at http://blogs.wsj.com/developments/2010/04/28/debate-rages-over-supply-of-foreclosed-homes/.

26Ivan Levi, “Stabilizing Neighborhoods Impacted byConcentrated Foreclosures: Scattered-Site RentalHousing Challenges and Opportunities” (Washington,D.C.:NeighborWorksAmerica,2009).

27Treuhaft,Rose,andBlack,citedabove.28Information and data on the implementation of this

program are available at http://www.hudhre.info/hprp/(May10,2010).

29Danilo Pelletiere, Michelle Canizio, Morgan Hargrave,and Sheila Crowley, “Housing Assistance for LowIncome Households: States Do Not Fill the Gap”(Washington, D.C.: National Low Income HousingCoalition,2009).

30Dean Baker, “The Right to Rent Plan” (Washington,D.C.:CenterforEconomicandPolicyResearch,2009).

31Dean Baker, “Arizona Leads the Way in CombatingForeclosure” (Washington, D.C.: Center for EconomicandPolicyResearch,2010)andHB2765ArizonaHouse

Policies that accommodate just

owners will not help all the

households that need assistance

and will only delay a return to higher occupancy levels

and housing market vitality.


ofRepresentatives,49thLeg.2sess.,availableathttp://www.azleg.gov/legtext/49leg/2r/bills/hb2765p.pdf.

32The“right-to-rent”provisionswerenotintheMortgageStabilizationandReliefAct(S1599/A3506)thateventu-allypassed.

33Under a Citibank pilot program in New Jersey, Texas,Florida,Illinois,Michigan,andOhio,borrowersagreetoturnovertheirdeedsafteraperiodofuptosixmonths.Inreturn,CitiMortgageallowsthemtoliveintheprop-ertyrentfreeduringthisperiodandprovidesaminimumof $1,000 in relocation assistance, relocation counselingbytrainedprofessionals,andcoverageofcertainmonthlyexpenses that Citi determines the homeowner can nolonger afford, such as homeowners’ association andescrow fees. BobTedeschi, “Another Foreclosure Alter-native,”NewYorkTimes,February24,2010, available atwww.nytimes.com/2010/02/28/realestate/28mort.html.

34Treuhaft,Rose,andBlack,citedabove.35Levi,citedabove.

36For example, the Veteran’s Administration’s “AcquiredPropertySalesforHomelessProviders”programobtainsproperties as the result of foreclosures on VA-insuredmortgages; itmakes themavailable for sale tohomelessprovider organizations at a discount of 20–50 percent,dependingonlengthoftimeonthemarket.

37The Self-Help Federal Credit Union is attemptingto be a non-predatory rent-to-own model to scale toabsorbexcessinventory.Self-HelpFederalCreditUnion,“Self-HelpLeasePurchaseProgram,” available atwww.self-help.org/neighborhood-stabilization-program/Self-Help%20Lease%20Purchase%20Programforwebsite.pdf.

38EllenSeidmanandAndrew Jakabovics,“Learning fromthe Past: The Asset Disposition Experiences of theHomeOwnersLoanCorporation, theResolutionTrustCorporation, and the Asset Control Area Program”(Washington,D.C.:CenterforAmericanProgress,2008).

39Andrew Jakabovics, “An Untapped Source of GreenRentalHomes”(Washington,D.C.:CenterforAmericanProgress,2010,p.1).


Likeatsunami,eachtidalwaveofforeclosureshas left in its wake hundreds of thousands ofvacant,blighted,andvandalizedproperties.Theimmediate damage—the disrupted lives, theemptyingofhomes—hasbeenfollowedbycol-lateraldamagetoneighboringhomeownersandtheircommunitiesatlarge.

Thefullmeasureofpost-foreclosuredamageisunderstoodonlywhenoneconsidersthateveryblightedhousecannegativelyimpactfiveorsixotherhousesnearit.InClevelandtodaythereareanestimated11,500vacanthouses,whichcouldeasily lower themarket valueof 60,000occu-piedhomes.Speakingtoscale,ifeachoccupiedhomelost$10,000invalue,the lossofhome-owner equity would come to $600,000,000.Further, that loss in value inevitably results ina loss of property tax assessment and lost taxrevenue forpublicly supported schools, police,fire,andsocialservices.Thesagaisdoublytragicbecause it is undermining Cleveland’s highlyregarded community-development system,whichmadesteadyprogressthroughthe1990sandtheearlypartofthe2000s.

In the case of the financial institutions thatbought the mortgages—specifically, the ser-vicers and trustees who manage the loanpools—itappearsthatsomeofthesameques-tionable decision-making that brought us theforeclosuresinthefirstplaceisnowcompound-ing the problem by the manner of handlingpost-foreclosure vacant homes, which banksrefertoasreal-estate-owned,orREO,property.

In this regard, Cleveland may again serveas a useful illustration and, to some extent,a warning to other cities that have yet toexperience a severe post-foreclosure problem.Anycity,regardlessofhowstrongitsrealestatemarketappears,couldsufferamarketfailureifits foreclosures reachacriticalmass.Forhun-dreds of years, foreclosures have worked as asuccessful debt-recovery mechanism when anisolatedforeclosureissurroundedbyotherwisestable, occupied homes. The foreclosed homecan be quickly re-marketed and re-sold, andthe lender’s lossminimized.Numbersof fore-closures in some areas of Cleveland, however,doubledandeventripled inasingleyeardur-ing the subprime crisis. When neighborhoodmarkets have high levels of subprime lend-ing and foreclosures, the system breaks downcompletely. Streets in Cleveland that had noforeclosuresfiveyearsagonowhavefourorfive.Streetsthathadafewforeclosuresnowhave10to20.

Sowho’sbuyingtheseproperties,andwhataretheydoingwith them?Thebuyers range frominexperiencedindividualswhowatchlate-nightinfomercials and are captivated by the prom-iseofmakingmillions in real estate, toanewnicheindustrythatseemstohavesprungupinthepastdecade:companies,mostofwhicharelocatedoutsidethestate,thatspecializeinmak-ingbulkpurchasesofvacantforeclosedhomes.Their business models vary. Some merely actas wholesalers and flip a package of 10 to 20homestoanotherinvestorforasmallmarkup;

Cleaning up after the Foreclosure Tsunami: Practices to Address REOs in Northeast Ohio1

by Frank FordNeighborhood Progress, Inc.


somepostthemoneBaywithoutmakinganyrepairs; and some make a bulk purchase toacquirejustonedecentprospect,assumingtheymayabandontheotherproperties.

InCleveland,urbanandsuburbancivicleadersfrom thepublic and communitydevelopmentsectors are fighting back in two ways. First,they’rechangingtheeconomicsof foreclosureandvacantpropertyownership.Second,they’recreating tools and programs for responsiblemanagementandredevelopmentofabandonedforeclosed property. This article discussesaspectsofboth.

Changing the Economics of Foreclosure and Vacant-Property OwnershipFollowing the age-old axiom that behaviordoesn’tchangewithoutafinancialincentivetodoso,civicleadershavetakenanumberofstepstoshiftgreaterfinancialresponsibilityforREOpropertiestothebanksandinvestorsthatownthem.Thefollowingtoolshavebeenemployedtodate,tovaryingeffect.

Threat of demolition. The City of Clevelandhas substantially ramped up its demoli-tioneffort.Intheyears leadingupto2006, itinspected,condemned,anddemolishedroughly200homesperyear.In2007,thenumbersbeganasteepascent:In2007andagainin2008,theCity demolished 1,000 homes; in 2009, thenumberwas1,700.TheCityisimposingdemo-litionliensandaimingtocollectanaverageof$10,000perhousetocoverthecostsofdemoli-tion.Theprospectofhavingavacantlotwitha$10,000demolitionlienonitcanbeapowerfulmotivator.

Prosecuting code violations. The City ofCleveland and its inner-ring suburbs are alsoprosecuting banks and REO investors forcriminal violationsofhousingcodes. Inaddi-tion,theClevelandMunicipalHousingCourthas issued arrestwarrants forbankpresidentsand has levied stiff penalties against irre-sponsible investing in abandonedproperty. In2008,theCourtissueda$140,000fineagainstan investor from Oklahoma. In late 2009, an

$850,000finewasimposedonaninvestorfromCalifornia.AndinJune2010,HousingCourtJudge Raymond Pianka levied a total of $13million in fines against two out-of-state realestate companies that have neglected proper-tiestheyowninCleveland.2

Private code enforcement. In addition togov-ernment-led code enforcement, private codeenforcement has been spearheaded by theCleveland-basednonprofitgroupNeighborhoodProgress, Inc., which has brought public-nui-sancelawsuitsagainsttwoofCleveland’slargestREOowners,WellsFargoandDeutscheBank.Thelawsuitsallege thatowninganddumpingvacantREOpropertyisapublicnuisancethatthreatens the health and safety of neighborsanddamagespropertyvalues.Asadirectresultof these suits, the twobankshave collectivelydemolished40blightedhomes,savingtheCityapproximately$400,000indemolitioncosts.

Combating bank walk-aways. Some lendershave begun dodging accountability for fore-closedpropertiesbylitigatingaforeclosurecasetojudgmentbutnottakingtitleatsheriff ’ssale.This tactic, commonly referred to as a “bankwalk-away,”allows lenders toobtainwhateverinsurance or accounting benefit is availableby documenting the loss, but leaves themimmune from responsibility for the damagecaused by a vacated property.To counter thislatest tactic, Rep. Dennis Murray in October2009 introduced a bill in the Ohio Houseof Representatives (HB 323)—based on aninnovativeNewJerseystatuteenactedinMay2009—that would make foreclosing lendersaccountable for nuisance conditions in prop-erties they are foreclosing on prior to takingtitle.ThebillwaspassedbytheOhioHouseofRepresentativesandasofJuly2010wasbeingreviewedbytheOhioSenate.

Making Responsible Use of Vacant Abandoned Property In its 40-yearhistoryof communitydevelop-ment, Cleveland has consistently exhibitedtwo major strengths. First, it’s a city steepedin community organizing tradition, and civicand community leaders have not been shy


about holding banks and investors account-able, as noted in the examples above. But itis also a city of innovation, as witnessed bythe Cleveland Housing Court, the ClevelandHousing Network (which introduced one ofthefirstscattered-sitelease-purchaseprogramsin the country), and the publicly accessibleNEOCANDOpropertydata systematCaseWesternReserveUniversity.3Civicleadershavebeennolesscreativeinaddressingthecurrentcrisisofpost-foreclosurevacantproperty.

Integrating rehabilitation with neighborhood stabilization. More than a year before thefederalgovernmentannouncedNeighborhoodStabilizationPrograms1and2,NeighborhoodProgress, Inc. (NPI) partnered with theCleveland Housing Network to developOpportunityHomes,aprogramthat rehabili-tatesvacantforeclosedpropertyinstrategicallytargeted areas to leverage existing assets andinvestments. Rehabbed homes are thensupported by other neighborhood stabiliza-tion activities on the same streets—blightremediation, demolition (for homes beyondrehab),home repair, and landscaping. Inwhatmaybethemostinnovativeaspectofthispro-gram,datafromtheNEOCANDOsystemisused to help identify occupied homes, in thevicinityof rehabbedhomes, thatareat riskofforeclosure.Usingbothpublicandproprietarydata sources, NPI then targets every occu-piedhomewitha subprimeoradjustable-ratemortgage for door-to-door outreach and loanmodificationassistance.

Reimagining Cleveland. TheCityofCleveland,inplanningahead for theproductive, sustain-able, and responsible re-use of the thousandsof vacant lots accumulating throughout theCity and its suburbs,haspartneredwithNPIon a project called “Reimagining Cleveland.”Theproject,fundedbytheSurdnaFoundation,involves engaging block clubs, civic organiza-tions, and local institutions in planning forshort-term utilization and long-term redevel-opmentofvacantproperty.

Land banking. Faced with a growing floodof post-foreclosure vacant property, the City

of Cleveland first needed to get control ofthoseproperties inorder tokeep themoutofthe hands of irresponsible investors and pre-vent furtherdamage toneighborhoods.But italso needed a place to “park” these propertieswhile it triaged them for immediate demoli-tion, eventual rehabilitation, or “mothballing”untilmarketconditionsaremoreconducivetoredevelopment. None of the local nonprofitshave the capacity to acquire and hold a largeinventory of vacant property. And while theCityofCleveland’slandbankownsthousandsofvacantlots,itlacksthefinancialresourcestomanageandmaintainvacant structures.EnterCuyahoga County Treasurer Jim Rokakis,who led a collaborative effort that resulted inthe creation of the Cuyahoga County LandReutilization Corporation—referred to as the“county land bank”—in April 2009. ModeledaftertheGeneseeCountyLandBank,basedinFlint,Michigan,thenewlandbank’santicipatedsuccess,andwhatdifferentiatesitfromtheCityLand Bank or local nonprofits, is that it willhaveanexpectedannualbudgetof$6millionto$8millionfromfeesandpenaltiescollectedonlateproperty-taxpayments.ThecountylandbankhasalreadynegotiatedsignificantdealstoacquireREOpropertiesfromFannieMaeandthe U.S. Department of Housing and UrbanDevelopment. (See also in this publication“HowModernLandBankingCanBeUsedtoSolveREOAcquisitionProblems,”byThomasJ.FitzpatrickIV.)

Lessons Learned The foreclosure crisis hit Cleveland hard andearlier than it hit many other cities. Becauseof this, Cleveland has had time to develop avariety of innovative approaches that othercitiescanlearnfrom.TheClevelandexperiencecanbedistilleddown to severalmajor lessonslearned. First, ramp up code enforcement tocontroltheownershipandirresponsibletrans-ferofpost-foreclosurevacantproperty.Inotherwords,changetheeconomicsofowningvacantproperty.Second,whilefightingtheimmediatebattle,beforward-thinkingandstartplanningaheadforthesustainablereuseofaccumulatingvacant property. Third—and critically impor-tant—establishanentity, suchas a landbank,

Civic leaders have taken a number of steps to shift greater financial responsibility for REO properties to the banks and investors that own them.


that can receive and responsibly hold vacantproperty. It shouldbenoted that a landbankcanonlybeusefulifithastheproperfinancialresources toundertakethis task.Linking landbanks to excess spin-offproperty tax revenue,asfirstdevelopedbytheGeneseeCountyLandBank,maybethesinglemostimportantinno-vationinurbanredevelopmentinrecentyears.Frank Ford is senior vice president for researchand development at Cleveland-based Neighbor-hoodProgress, Inc.A licensedattorney,Mr.Fordhas worked in the field of community develop-ment for33years;hisworkhas includedhousingdevelopment, commercial retail development,organizationaldevelopment,humancapitaldevel-opment, and applied research. He published oneof thefirst studies in theU.S. todocument racial

disparities in lending to small businesses, and in1986litigatedthefirstcaseunderOhio’snuisance-abatement property receivership law. Mr. Fordreceived a BA degree in English from KenyonCollege and a Juris Doctor degree from the CaseWesternReserveUniversitySchoolofLaw.

Endnotes1 AdaptedfromanarticlepublishedinShelterforce 159/160

(Fall–Winter2009).2 SandraLivingston,“Clevelandhousingcourtjudgefines

tworealestatefirmsabout$13millionforneglect,”thePlain Dealer, June 22, 2010. Available at http://blog.cleveland.com/metro/2010/06/cleveland_housing_court_judge_1.html.

3 NEO CANDO (Northeast Ohio Community andNeighborhood Data for Organizing) is a free, publiclyaccessible social and economic data system. It can beaccessedathttp://neocando.case.edu/cando/index.jsp.

Every blighted house can

negatively impact five or six other houses near it.


The foreclosure crisis has become a nationalissueoverthepastfewyears,affectingvirtuallyeveryregionofthecountry.Problemsofwide-spread vacancy and abandonment, however,havepersistedprimarilyinolder,shrinkingcit-ies,manyofwhichcanbefoundintheRustBelt,whereonce-strongindustries likemanufactur-ingandrawmaterialsproductionhavemovedoverseasorotherwisereducedemployment.Astheseindustriesmovedandevolved,thepopu-lationsoftheirhostcitiesandtheirinner-ringsuburbs have fallen, while outer-ring suburbsgrew.1Withoutsteadyorincreasingpopulationtooccupyhousingstock,vacancyandabandon-ment occur organically.The recent foreclosurecrisishas aggravated this existingproblem forshrinking cities. One of the natural results offoreclosuresinsuchhard-hitareasisanincreaseinreal-estate-owned(REO)properties.

Inshrinkingcities,ashomeloansbecomedelin-quentandpropertiesgointoforeclosureandareauctionedoff,itisunsurprisingthatownershipoften reverts to the loan owner; there is sim-plytoolittledemandtofillthehousingstock.Logic dictates a rather predictable cycle: thehighest-qualitypropertieswillbefilteredoutofthepoolofpropertiesbeforeorafterforeclosurethrough short sales or at foreclosure auctions.This leaves lower-quality houses among thosethat end up as REOs. Anecdotal reports andempirical research suggest that REO prop-erties in shrinking cities are more frequentlydistressedthantheywereevenafewyearsago.2PrivatemarketsoftenfindtheREOpropertiesinshrinkingcitiesundesirable,asevidencedbythelackofinterestinacquiringthem.

Problematic,forsure.ButthesedistressedREOpropertiescanalso representopportunities forlocal governments to help stabilize, or evenrevitalize,areasstrugglingwithpopulationlossandanoverhangofhousingstock.Tocapitalizeontheseopportunities,localgovernmentsmustfirstovercomethechallengesofacquiringREOproperties.TwocommonlyreportedchallengesthatlocalgovernmentsinandaroundshrinkingcitiesfacewhentryingtoacquireREOpropertyarebringing theowners to the table tonego-tiate for the purchase of REO properties andobtaining the financing necessary to acquireandremediatesuchproperties.Thisarticlewillexplorehowmodernlandbankingdiffersfromtraditional land banking, and how the newerlandbanks canbeauseful tool to solve thesetwochallenges.

Land Banking: Then and NowLandbankinginoneformoranotherhasbeenaround,inOhioandotherstates,formorethan40 years. For most of this time, only minorchanges occurred in what land banks werethoughttobe,howtheywerefunded,andthetypeofproperties theyacquired.RecentOhiolegislationdramaticallyoverhauled landbank-inginthestate,reshapingthewaylandbankscanbefundedandorganizedandaugmentingthe powers they have to acquire, address, anddisposeofdistressedproperties.

Landbankingwasoriginallyusedasamunici-pal tool to acquire andhold large amountsofpropertyforredevelopmentasawaytoencour-agedevelopmentconsistentwithmunicipalities’long-term plans.3 As land banking evolved,somehaveadvocateditsuseasatooltofurther

How Modern Land Banking Can Be Used to Solve REO Acquisition Problems

by Thomas J. Fitzpatrick IV

Federal Reserve Bank of Cleveland


specific goals, such as affordable housing oracquiring and redeveloping tax-delinquentproperties.4 Traditional land banks sharedmany limiting features; the most importantto this discussion is that theywere local gov-ernment programs that passively receivedproperties either not sold at tax-foreclosuresalesoracquiredthroughdonation.

Structuring land banks as municipal govern-ment programs is limiting in two importantways. First, it means that land banks dependonlocalgovernmentsforfundingandstaffsup-port,whichforceslandbankstocoordinatetheeffortsofthemultipleagenciesthatsupportitwithouttheabilitytoincentivizethoseagencies’efforts.Itcanalsocauselandbanks’fundingandoperationstobepoliticized,makingitdifficultto engage in long-term, optimum strategicplanning.Second,thelimitedgeographicscopeof municipal land banks’ operations preventsthem from taking advantage of economies ofscalethatwouldbeavailableiftheywereoper-ating in a wider geography, and from betteraddressingproblemsalongmunicipalborders.

Modernlandbankinghasdepartedfromthesetraditional land banking forms in several keyways. For one, the purpose of land banks hasbroadened considerably. While the seeds ofmodern land banking were planted in theGeneseeCounty(Michigan)landbankmodel,itisinOhiothatmodernlandbankinghasfur-therdeveloped.5TheOhiolegislationillustratesthat modern land banks are no longer simpletools to control future development patterns.Rather, modern land banks assist public andprivate redevelopment by actively identifyingand strategically acquiring parcels otherwiseunattractive or unobtainable by public or pri-vate markets, clearing their titles, and, wherenecessary,decidinghowtoremediatetheprop-ertytomakeitattractiveforfutureinvestment.Anotherkeydifferencebetweentraditionalandmodernlandbanksisthatthemodernonesarenotorganizedaroundnarrowgoalssuchasfur-thering fair housing. Instead, they are given abroadpublicmissionandtheflexibilitytooper-ateasanindependentprivateentitywithinthe

scopeofthatmission.InOhio,suchlandbanksareorganizedasnonprofitcorporationswithastatutorilydefinedpublicmission.6Equallyimportanttomodernlandbanks’flex-ibilityishavingdedicatedstaffandastatutorilydefinedrevenuestream,bothofwhichallowforlong-termplanning. Inaddition,modern landbanks are organized and fundedon a broadergeographicscale,allowingthemtotakeadvan-tage of economies of scale when acquiring,rehabilitating, or demolishing properties andwhen funding their operations.These benefitsallow modern land banks to make bulk pur-chasesofREOpropertiesdirectlyfromlendersin situations where municipalities, acting ontheirown,wouldbeunabletodoso.

Some Roadblocks on the Path to Acquiring REO Properties Modern land banks can be powerful tools toacquire REO properties as a way to stabilize,and in somecases revitalize,at-riskneighbor-hoods.Thesenewerlandbanksaredesignedtodealwith thedistressedproperty that ismorefrequently becoming REO in shrinking cit-ies. Additionally, their structure allows themtoovercomethechallengesmunicipalitiesfacewhen attempting to acquire REO properties.Inpractice,thesepointsaredrivenhomebythesuccess of Ohio’s modern land bank in over-comingthesechallenges.

The ownership of REO properties within amunicipality is frequently extremely frag-mented.This may be a natural by-product ofsecuritization, which encouraged the aggrega-tion of a geographically diverse pool of loansintoatrustthatsoldsecuritiestoadiversesetofinvestors.7Becausegeographicdiversitywasan important factor to many investors duringthesecuritizationboom,onlythelargestREOsellers will own more than a relatively smallnumber of properties in the largest jurisdic-tions.Eventhelargestmortgageowners—suchas Fannie Mae and Freddie Mac—who mayownasignificantnumberofREOpropertiesinaregionwillgenerallyonlyownasmallnumberofpropertiesinanyonemunicipality.

Distressed REO properties represent

opportunities for local governments to help stabilize or

revitalize areas struggling with population loss

and excess housing stock.


Thefragmentationofownershipcanbealargeproblem for municipalities. Municipalitiestend to only be interested in acquiring prop-erties within their borders, and fragmentedownership makes it very difficult for them tonegotiatewithanyoneREOseller fora largenumber of properties. Because modern landbanks typically cover a much broader geogra-phy than traditional land banks or any singlemunicipality, fragmentation does not interferewith bulk purchasing to the same extent.Themore the geographic scope of the land bank’sjurisdiction expands, themore likely it is thatthe land bank will be able to engage in bulkpurchasesofpropertiesfromREOsellers.

ThereisusuallynoshortageofREOpropertiesinshrinkingcitiesortheirsurroundingsuburbs.And it is not uncommon that the acquisitionof such property fits into a local governmentornonprofitplantorevitalizeaneighborhood,suburb,orthecentralcityitself.Andyet,onceinterestedprospectivebuyersfindtherightpeo-ple to talk to, theyoftenreporthavingahardtimegettingtothenegotiatingtable.Anecdotalreportssuggestthatthisphenomenonis likelyaggravatedbyafewfactors.First,asdiscussed,thesecuritizationofhomemortgageloanshasfragmented the ownership and servicing ofREOproperty.Second,amunicipalityornon-profitwillonlybeinterestedinpropertiesthatarepartsofapreexistingdevelopmentplancov-ering a narrow geography: municipalities andmostnonprofitsarenotdesignedto inventoryproperty.Thesetwofactorssuggestmunicipali-tiesornonprofitswill likelyonlybeinterestedinaverysmallnumberofpropertiesfromanyoneREOselleratanygiventime.

These two factors do not fully explain whymunicipalitieswouldbeunabletobringREOsellers to thenegotiating table.A third factor,however, might help. Private market partici-pants have shown an interest in buying andholding large quantities of REO properties,ostensiblyinthehopeorexpectationthatprop-ertyvalueswillriseandallowthemtosellatahigherpricethantheypaid.Municipalitiesmayhaveahardtimecompetingfortheattentionof

REOsellersagainstprivatemarketparticipants,inpartbecauseprivatemarketsarenotboundby municipal borders.8Thus, it is more likelythat private market purchasers will be moreinterestedinmakingbulkREOpurchasesthanmunicipalities will. If acting rationally, REOsellers—who want to be short-term propertyowners—should prefer to deal with private-market bulk buyers over municipal buyersinterested in fewerproperties,as itcouldhelpreduceREOsellers’transactioncostsandtimeofREOownership.

Another challenge facing municipalities isobtaining funding. Assuming municipalitiescan get REO sellers to the table, they oftenhaveahardtimeobtainingfundingtoacquirethe properties in which they are interested.Onereasonisthatshrinkingcitieshavecorre-spondinglysmallertaxbasestofundoperations.Additionally, traditional landbanks,andoftenthe municipalities themselves, do not have arevenue stream earmarked for acquisition ofREOproperty,andcreatingnewearmarksmaybepoliticallychallenging.Thislimitsthesourceof funding for municipal REO acquisitionto discretionary funds, which are scarce. Thisscarcityofdiscretionaryfundsisalsoanaturalconsequenceofshrinkingmunicipalitieslosingtaxbasewhileretainingmuchoftheoverheadrequired when providing government serviceswithintheirjurisdiction.

How Modern Land Banks Solve these ChallengesModern landbanksaremuchbetter suited tobringingREOsellerstothetableandfundingbulkREOpurchases than traditionalmunici-pallandbanksare.Thisisduetothreefeaturesofmodern landbankdesign: theirbroadgeo-graphiccoverage,theirbroadpowerstoacquire,deconstruct, demolish, lease, mortgage, andrehabilitateinventory,andtheirdedicatedrev-enue stream. Because they are not limited toasmallgeographyornarrowpurpose,modernlandbanksarebetterpositionedtocompeteforthe attention of REO sellers and can achieveeconomiesofscaleandscopenoteasilyobtainedbymunicipalities.InOhio,forexample,modern


landbankscannegotiateforallofthepropertiesaservicerownswithinanentirecounty.Theydonotneedanimmediateuseforeachproperty,butinsteadcaninventorythosepropertiesthatcan-not be immediately transferred to developers,municipalities, or nonprofits operating withinthelandbank’sjurisdiction.Inventoriedproper-tiescanbemothballed,sold,leased,demolished,ordeconstructed.Modernlandbankscanalsooffer advantages to sellers ofREOproperties,such as the ability to negotiate for the regu-lardisposalof allof a seller’sREOpropertieswithinacounty.Inthisway,modernlandbankssolvetheproblemscausedbylackofmunicipalcollaboration.

Modern land banks have dedicated revenuestreamsthatcanbeusedtofundbulkREOpur-chases.Suchrevenuesourcesaredictatedbythelandbank’senablinglegislation.Todate,oneofthemostinnovativefundingmechanismsincor-porated into modern land banking legislationisOhio’suseofpenaltiesandinterestofunpaidrealpropertytaxesandassessmentstoprovideastable, predictable revenue stream for the landbank.9 Because this revenue can be used foranypurposewithinthelandbank’spublicmis-sion,it isnotnecessarytoearmarkanyportionspecifically for REO acquisition.This providesthe flexibility necessary to make ad hoc bulkpurchases of REO property. In addition, Ohioimplementsthesystemcounty-wide,whichfreestherevenuestreamfromfluctuationsinanyonemunicipality’srealpropertytaxbase.

There are many ways a land bank’s revenuestream may be structured. For example, mod-ern land banks in Michigan automaticallyreceivepropertynot sold at sheriff ’s sales andarefundedprimarilybyretainingproceedsfromall properties sold out of inventory, either byrecapturingaportionoftherealpropertytaxesoneveryproperty itputsbackintoproductiveuseforthefirstfiveyears,orbyrentingprop-erties that areheld in inventory.Ohio,on theotherhand,grantssimilarpowerstolandbanks:Theymayretainproceedsofpropertiessoldoutof inventory and rent a specified amount oftheir inventory to tenants. Additionally, Ohioincreases penalties and fees on delinquent

propertytaxesandredirectsthosepenaltiesandfeestolandbanks.TheadvantageoftheOhiomethodisthathistoricallyaportionofthepop-ulation consistently pays property taxes aftertheyaredue.Thisallowslandbankstomathe-maticallymodeltheirexpectedrevenuestreamson a forward-looking basis to support issuingbondsorborrowingfromafinancialinstitutiontofundoperations.

Sofarthisessayisamostlyconceptualdiscussionof how modern land banks can be a powerfultoolforREOpropertyacquisition.Itwouldbeincompletewithoutatleastoneexampleofthesuccessful implementation of these concepts.Ohio’smodernlandbankingsystem,establishedin2009,providesjustsuchanexample.

Fannie Mae is one of the country’s largestpurchasers of home mortgage loans. Becauseof itsextensive loanownershipandthecurrenteconomic conditions, Fannie Mae has founditselfwithalargeREOinventory.InCuyahogaCounty,Ohio,numerousmunicipalitiesanxiousto stabilize their neighborhoods were inter-ested inacquiringsomeofFannieMae’sREOproperties.However,theyhadahardtimeget-tingFannieMaetothenegotiatingtable.Inlate2008,theCityofClevelandopenednegotiationswith Fannie Mae—a process that took morethanayear—butthepartieswereunabletofinal-izeanagreement.During this time, Ohio passed what is argu-ably the country’s most innovative landbank-enabling legislation. Six months afterit began operating, the Cuyahoga CountyReutilization Corporation, or land bank,finalized a landmark deal with Fannie Mae.Through it, the landbank can acquire—with-outcompetition fromprivate investors—everyone of Fannie Mae’s foreclosed propertieswithinCuyahogaCountythatarevaluedatlessthan$25,000for$1each.Further,FannieMaecontributes $3,500 toward the demolition ofeachpropertydeemedunsalvageable.10Manyofthepropertiesacquired inthedealare locatedin different municipalities within CuyahogaCounty, and not all of the properties fit intocurrent development plans—factors that may

Through the deal, the land bank can

acquire all of Fannie Mae’s foreclosed

properties within Cuyahoga County

valued at less than $25,000

for $1 each.


have prevented their acquisition in the past.A representative from Fannie Mae explainedthat the company preferred to work with thelandbankbecauseitallowedforongoinghighvolumesalestoasinglepurchaser.11Inaddition,thedeallaidthegroundworkfortheacquisitionof higher-value REO properties by the landbank,whenappropriate.

AsimilardealwasstruckwiththeU.S.Depart-ment of Housing and Urban Development(HUD), in which HUD agreed to give theCuyahoga County land bank a right of firstrefusal on the lowest-value properties it dis-posesof.Through thedeal, the landbankcanpurchaseanypropertyworthlessthan$20,000forjust$100,whilepropertiesworthmorethan$20,000canbepurchasedatdiscountsthatvarybasedontheamountoftimetheyhavebeenonthemarket.12

ConclusionModern land banks hold great promise as adynamiccommunitydevelopmenttoolthatcanhelpshrinkingcitiesandlocalpartiesovercomethetwobiggestchallengestheyfacewhentry-ingtoacquireREOproperty.Practiceprovidesuswithapowerfulexampleof their successes.Asregionsstruggletocontroltheirinventoriesofvacant,abandoned,orREOproperties,theywouldberemissnottoconsidertheinnovativemodernlandbankingapproachthatiscurrentlybeingemployedinstateslikeOhio.

Thomas J. Fitzpatrick IV is an economist intheCommunityDevelopmentDepartmentat theFederalReserveBankofCleveland.Hisprimaryfieldsofinterestarethelegalaspectsofasset-backedsecurities and their derivatives; he is also inter-estedinconsumerfinance,financialregulation,andcommunitydevelopment.Mr.Fitzpatrickreceivedhis JD fromCleveland-MarshallCollegeofLawat Cleveland State University and his bachelor’sdegreefromtheCollegeofWooster.HeislicensedtopracticelawinOhio.

Endnotes1 Foramoredetaileddiscussionofthebuildingtrendsand

theireffectsoncitiesandinner-ringsuburbs,seeThomasBierandCharliePost,“VacatingtheCity:AnAnalysisofNewHomesvs.HouseholdGrowth”(Washington,D.C.:BrookingsInstitution,2003).

2 ClaudiaCoultonandothers,“PathwaystoForeclosure:ALongitudinalStudyofMortgageLoans,Cleveland,andCuyahogaCounty2005–2008” (Cleveland,Oh.:CenteronUrbanPoverty andCommunityDevelopment,CaseWesternReserveUniversity,2008).

3 See, e.g., Sylvan Kamm, “Land Banking: Public PolicyAlternatives andDilemmas” (Washington,D.C.:UrbanInstitute,1970);ModelLandDev.Code(AmericanLawInstitute, Tentative Draft No. 6, 1974); and Frank S.Alexander, “Land Bank Authorities: A Guide for theCreation and Operation of Local Land Banks” (NewYorkandWashington,D.C.:FannieMaeFoundationandLISC,2005),onthehistoryoflandbanking.

4 See,e.g.,CassandraN.Jones,“PublicLandBankingandMountLaurelII—CanThereBeaSymbioticRelation-ship?,” Rutgers Law Journal 15 (1984): 641–665; andFrankS.Alexander,“LandBankStrategiesforRenewingUrbanLand,”JournalofAffordableHousing14(2)(2005):140-169(discussingmorerecentlandbankingefforts).

5 ThestatelawrequiredfortheGeneseeCountylandbanktooperateat itscurrentscaledidnotpassuntil2004—twoyearsafterthelandbankbeganoperation.SeeMich.Const.Art.III,§5andArt.VII§§27,28and34;1951Mich. Pub. Act 35; Mich. Comp. Laws §§ 124.1 and124.2; 1967 Mich. Pub. Act 7; Mich. Comp. Laws §§124.501etseq.ForadiscussionofOhio’srecentlandbanklegislation,seeThomasJ.FitzpatrickIV,“UnderstandingOhio’sLandBankLegislation”(Cleveland,Oh.:FederalReserve Bank of Cleveland, Policy Discussion Paper,2009).

6 ThismissionisstatutorilydefinedinOhioRev.Code§1724.01(B)(2)(2009).

7 Securitizationisnotaprimarytopicofthispiece,soitwillbediscussedonlybriefly.Securitization is accomplishedby sellingpools of loans into a legal vehicle—a trust—thatownsthoseloans.Theloansinanyonepoolarefrombroadgeographicalareasbydesign;thus,nosingletrustwillhavemanyloansfromanyparticularlocation.Rela-tivetothenumberoftrusts,therearefewerinstitutionsthatserveasservicersofthetrustsandhaveresponsibilityforinventoryingandsellingREOproperties.Still,therearehundredsofservicers,andeventhelargestmaycontrolonlyarelativelysmallnumberofREOpropertiesinanyonemunicipality.

8 In theory, this could be solved through municipalcollaborationwhenacquiringREOproperties.IfenoughmunicipalitiescollaboratedtomakebulkREOpurchases,they should be able to compete effectively with privatebulkbuyersforREOsellers’attention.Andyet,asignifi-cantcollectiveactionproblemexists.MajorcollaborativeeffortssuchastheREOClearinghousehavehadlimited


success in coordinating numerous municipalities andother small REO purchasers.This could be due to thedifficultiesofnavigatingnumerousgovernmentbureau-cracies and legal restrictions on municipal action, orother political difficulties associated with collaborativegovernmentaction.

9 In essence, Ohio’s modern land banks are funded byadvancingtaxingdistrictstheprincipalvalueofrealprop-ertytaxeswhentheyaredue,basedonhistoriccollectionrates.Therearemultiplewaystofundthisadvance,forin-stance:borrowingfromthecountyunderOhioRev.Code§307.781 (2009) or issuingunpaid anddelinquent taxanticipationsecuritiesunderOhioRev.Code§133.082(2009). When taxes are collected, their principal value,plussomeinterest,goestopaydownthelineofcreditorsecurityholders.Thepenaltiesondelinquent realprop-ertytaxes,whichareincreasedincountieswithlandbanksunderOhioRev.Code§323.121(B)(2) (2009), remain

in the land bank to fund operations. This provides fora stable revenue stream for landbankoperations, albeita moderate one. In Cuyahoga County, Ohio, of whichClevelandisthecentralcity,itisestimatedthatthiswillcreatearevenuestreamof$7millionto$9millioneachyear.SeeThomasJ.FitzpatrickIV,citedabove.

10See Sandra Livingston, “Fannie Mae and the newCuyahoga County land bank forge unique agreement,”thePlainDealer,December16,2009.Availableathttp://blog.cleveland.com/metro/2009/12/fannie_mae_and_the_new_cuyahog.html(accessedMay3,2010).

11SeeSandraLivingston,citedabove.12See Sandra Livingston,“HUD agrees to sell foreclosed

housestoCuyahogaCountylandbank,”thePlainDealer,July 2, 2010. Available at http://www.cleveland.com/open/ index . s s f /2010/07/hud_agree s_ to_se l l_foreclosed.html.


“Mindthegap!Pleasemindthegap!Mindthegapbetweenthetrainandtheplatform!”

OnarecenttriptoLondon,mychildrenwereentertainedbyeveryvariationofthiscontinu-ally repeated warning on the Underground.Fromtherecordedsoundtrackattheairporttothe conductor at theNottingHillGateTubestop,weheardremindersofjusthowdangerousthe space between the train and theplatformcan be. These warnings become little morethanbackgroundnoise to thosewho take theUndergroundonaregularbasis.

In similar fashion, the CommunityReinvestmentAct (CRA)bank regulators arecontinuallycautionedto“mindthegap”betweenthewrittenregulationsandtherealityofwhatisgoingonintheworldofbankingandcom-munity development. Interest groups abound.Bankersimploreregulatorstogivethemcreditfor this or that innovation in lending, invest-ment, or service. Banks, for example, believedirect credit as Community DevelopmentLoans should be given for letters of creditsupporting affordable housing. Communitygroups, on the other hand, say that there hasbeen“gradeinflation”inCRAexamsandthateverybankisgradedasanAorBstudent.Thesegroupspointouttheareaswheretheyfeelreg-ulators have missed the mark, as well as thebanking practices regulators should pay moreattentionto.Largecitieswouldlikemorefocusonimportanturbancores,whileruralcommu-nitiessaythattheirneedsareignoredinmuchofthediscussion.Withalloftheseapparentlycompeting interests, it is sometimes difficult

for regulators to discern the true nature ofcommunities’needsandbanks’CRAeffortsastheadvocacyvoicesbecomebackgroundnoisefromfrequentrepetition.

In the case of the proposed expansion of theCRAregulationtoencouragebanks’supportofNationalStabilizationProgram(NSP)-eligibleactivities,theregulatoryagenciesare“mindingthe gap” between the regulation and the realworldwithapositivemovetoaddresstheissueofvacantandabandonedpropertiesinsomeofthe country’s hardest-hit communities. As wemovebeyondthesubprimecrisis,throughtheforeclosurecrisis,andontothegrowingcrisisinvacantandabandonedproperties,communitiesareincreasinglysaddledwithempty,deteriorat-inghousesthatdevalueneighboringproperties,attractcrime,anddemoralizeneighborhoods.

Thefourbankregulators—theFederalReserve,Office of the Comptroller of the Currency,Federal Deposit Insurance Corporation, andOffice of Thrift Supervision—have proposedsomechangesintheCRAtoaddressthegrow-ingproblemofvacantandabandonedhouses.How banks manage, dispose of, and supportthe rehabilitation of their real-estate-owned(REO)property1canhaveasignificantimpactonthesurvivalofastreet,ablock,aneighbor-hood,andacity.ThisnewCRAproposalgivesbanksanaddedincentivetoworkwithcommu-nitypartnerstoaddressthisseriousissue.

The four regulatory agencies announced theproposalonJune17,2010,andacceptedwrit-ten comments through August 31. They also

The Community Reinvestment Act and NSP: A Banker’s Perspective

by Mike GriffinKeyBank


heldpublichearingsinthreeU.S.citiesinJulyandAugust.Afinalannouncementonthepro-posalispendingatthetimeofthispublication.

Assomeonewhohasworkedinthecommunitydevelopmentfieldfornearly20years,Ifinditpainfultoseethehardworkofcommittedcom-munity development corporations and othercommunity development professionals beingundonebytheabandonmentofhomes,quicklystripped of everything of value, to become ablight on our neighborhoods. While a greatdealofthisdamageisconcentratedinlow-andmoderate-incomeneighborhoods,asignificantnumberofmiddle-incomeareasarealsobeingnegativelyaffectedbythis issueeitherdirectlyorthroughcontagion.

The proposed change to the CRA articulateshowbankscanpartnerwithcommunityorgani-zationstoaddressswellinginventoriesofREOproperties and help stabilize neighborhoods.Forexample,aswritten,theCRAappliesonlyto low- and moderate-income borrowers andcensustracts,definedasthosewhoseresidents,onaverage,havelessthan80percentoftheareamedianincome;however,theNSPallowsfundstobeused“withrespecttofamilieswhoseincomedoes not exceed 120 percent of the area medianincome.”Thisdiscrepancyhasmade itdifficultforbankstodeterminewhethertheirsupportofNSPprojectswouldqualifyforCRAconsider-ation.Theproposaladdressesthisdiscrepancy;specifically,itwould

In their request for comments, the regulatoryagencies asked several questions about thisspecific proposed change. One asks whetherregulators should restrict CRA considerationfor NSP activities to only those that are spe-cifically part of a HUD-approved NSP plan.Fromabanker’sperspective,suchanarrowrulewouldbe short-sighted.Given the severity ofthe vacancy and abandonment issue, particu-larly in those communities hit hardest by theforeclosurecrisis,itisimportantnottorestrictcredit for these activities simply because theyarenotspecificallyspelledoutinanNSPplan.

Itisdifficulttoforeseeeverythingthatshouldbeincludedinaplaninadvanceofbeginningthework.AsNSPrecipientsworkthroughtheirplans, changes, such as the involvement of anewcommunitypartnerorachangeofphysicallocationbecauseofaninabilitytogaincontrolofanimportantstructure,areoftenneededtomeetacommunity’sshiftingreality.RegardlessofwhetheritisdirectlytiedtoanNSPproject,if that activity is consistent with the goals ofNSPitshouldbeincludedforCRAcredit.ToartificiallyexcludeconsiderationofallactivitiesconsistentwithNSP’s intentions, and includeonly those activities that are part of a plan,would be overly restrictive and would stiflethe intended commitment to addressing thecurrenthousingquagmire.

Another aspect of the proposal is alsowelcome—that which would allow banks totake CRA credit for NSP-eligible activitiesoutsideof their assessment areas.Thispart oftheproposalrecognizesthatmanyinstitutionshave done mortgage lending—and thereforehaveREOproperties—outsideoftheirassess-mentareas.Thisprovision,ofcourse,comeswiththeusualcaveat thatan institutionmusthave“adequatelyaddressedthecommunitydevelop-mentneedsofitsassessmentarea(s).”AllowingbankstheflexibilitytoreceivecreditforNSP-related activities outside of their assessmentareasprovidesbankstheopportunitytotakeagloballookattheirrealestateportfoliosinsteadofsegregatingthepropertiesinsidefromthoseoutside their assessment areas. This expan-sionallows institutions tomove forwardwith

The proposed change to the CRA

articulates how banks can partner

with community organizations.

revise the interagency CRA regulationsbyaddingtothedefinitionof‘communitydevelopment’ loans, investments, andservices that support, enable, or facili-tateNSP-eligibleactivitiesindesignatedareas identified in plans approved byHUD under the NSP … A financialinstitutionwouldreceivefavorableCRAconsideration for a donation of OtherReal Estate Owned (OREO) propertiesto non-profit housing organizations ineligible middle-income, as well as low-andmoderate-income,geographies.


engagement in NSP activities regardless of thelocationofthepropertiesinvolved,assuredthatsomeCRAbenefitwillaccruetothem.

Overall,theproposalwillprobablyhavealim-itedeffectonbanks’CRAactivities.Banksthatareengagedwiththeircommunitiesandareindiscussions concerning NSP-eligible projectshave already assumed that these activities, bytheirverynature,wouldqualifyforCRAcon-sideration. Because most NSP activity takesplace in low-andmoderate-incomeareas, theactivity is presumed toqualify, and any issueswouldbeworkedthroughwithbanks’examin-ersattheirnextCRAexam.

While the proposal provides greater certaintyabout banks’ receiving CRA credit and willsimplify recordkeeping, it will not be thedriving force behind their engagement withcommunities. The proposal should makeinstitutions with large REO portfolios take asecondlookat—andperhapsafreshapproachto—howtheymanage theirportfoliosoutsidetheir assessmentareas andevaluatewhat theycandotoworkwithcommunitygroupsinmid-dle-incomeneighborhoodsaswellaslow-andmoderate-incomeareastofacilitatethetransferofproperties.

Theproposalwill,however,increasethebank-ingindustry’sconsciousnessoftheimportanceofNSPinitiativesandresponsestothevacantandabandonedpropertyissuewithoutsignifi-cantly increasingbanks’complianceburden.Itmay prompt bankers to think and work cre-atively on ways to address this serious issue.Thisproposalisapositivesignthattheregula-torsarefindingwaystoreactmorenimblyandsortthroughthecacophonyofvoicescomingatthemfromdifferentdirections.Regulatorshaveheardwherefinancialinstitutions’andcommu-nities’interestshavealignedto“mindthegap”betweenregulationandtheveryrealproblemofforeclosedandabandonedpropertiesbesiegingourcommunities.

It is the collective responsibility of bankers,alongwithcommunitygroups,toadvocateforthe needs of our communities and to speakupwhenwethinkanimportantissueisbeingoverlookedbytheregulationthathashadsuchapositiveimpactontheredevelopmentofourneighborhoodsoverthepast30years.Thispro-posedchangetotheCRAmaybeaprecursorofmoreagileregulatoryresponsesinthefuture.As we have seen over the past few years, cir-cumstances can change rapidly; interagencyregulatorychange,withitscomplicatedproce-dures,canbeslowandcumbersome.Theabilitytoadaptquickly,withsufficientprudence,willdetermine the success of the CommunityReinvestment Act in helping to address as-yet-unforeseenissuesthroughtheremainderofthiscrisis.

Mike Griffin isaseniorvicepresidentatKeyBank,wherehis responsibilities include the corporation’snational CRA compliance. Mike joined Key in1998asassetmanagerforitsportfolioofcommu-nitydevelopmentinvestments,whichnowincludes$1.3billionofinvestmentsin14states.Previously,Mike served as asset manager for ClevelandHousingNetwork,anationallyrecognizedleaderin building and rehabilitating affordable hous-ing. He serves on the Federal Reserve Board’sConsumer Advisory Council. Mike received dualdegrees in business and Spanish from ClevelandStateUniversity.

Endnote1 The proposal refers to this as “other real-estate-owned

property,”orOREO.


Authors

federal reserve bank of bostonTM

Alan Mallach • Brookings Institution

Carolina K. Reid • Federal Reserve Bank of San Francisco

Dan Immergluck • Georgia Institute of Technology

Claudia Coulton • Case Western Reserve University

Michael Schramm • Case Western Reserve University

April Hirsh • Case Western Reserve University

Kai-yan Lee • Federal Reserve Bank of Boston

Ira Goldstein • The Reinvestment Fund

Stergios Theologides • CoreLogic

Craig Nickerson • National Community Stabilization Trust

Jay N. Ryan Jr. • Fannie Mae

Harriet Newburger • Federal Reserve Bank of Philadelphia

Daniel Fleischman • Affordable housing consultant

Elyse D. Cherry • Boston Community Capital

Patricia Hanratty • Aura Mortgage Advisors

Harold Simon • National Housing Institute

Danilo Pelletiere • National Low Income Housing Coalition

Frank Ford • Neighborhood Progress, Inc.

Thomas J. Fitzpatrick IV • Federal Reserve Bank of Cleveland

Mike Griffin • KeyBank

Federal Reserve Bank of Boston • www.bos.frb.orgFederal Reserve Bank of Cleveland • www.clevelandfed.org

Federal Reserve Board of Governors • www.federalreserve.gov

Federal Reserve Board of Governors

community-wealth.orgcommunity-wealth.org/sites/clone.community-wealth.org/files/downl… · a joint...

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