Christopher Whalen of Institutional Risk Analytics has been in the news quite a bit lately with insightful commentary about the big foreclosure mess. Recently he gave a presentation at the University of Virginia (titled “Understanding and Profiting from the Next Banking Crisis“). It is fairly illuminating, and I definitely recommend checking it out. Within it, he discusses the ramifications of the foreclosure/securitization crisis, and what it may mean for the economy moving forward. He comes to the conclusion that the largest banks are essentially insolvent and will require restructuring, and that failure to do so will only prolong the economic crisis.
Whalen does not paint a pretty picture about the state of the banks. He also has a very interesting and novel take on the foreclosure crisis. This below video is a little old (dated 10/18), but within it Whalen raises a very basic point that I have not heard anybody in the media address at all, and that is the effect that widespread foreclosures will have on property taxes. Obviously when somebody is foreclosed upon, they stop paying property taxes. Property taxes generally fund the most basic and important municipal services in the United States (e.g. schools, police, fire departments, et. al.).
Whalen’s contention is that as foreclosures mount, and the property tax base is eroded, that states will be forced to issue foreclosure moratoria in order to protect tax revenues. You can see the complete video below:
His point about property taxes and foreclosure is so very basic that I cannot believe I did not think of it, and that I haven’t heard more about it in the media. If there are enough foreclosures, property tax revenues could be eroded to the point where states will either have to raise property taxes (or some other tax) on remaining homeowners in order to make up for lost revenue. Alternately, vital services could be cut. Neither of these options is likely very appealing to politicians. I can absolutely see a situation where a state that has been hit particularly hard by foreclosures (like Florida or Arizona) issues a statewide foreclosure moratorium. From there, it would be easy to see other states following suit.
At this point what happens with the foreclosure mess is anyone’s guess. State attorneys general are still conducting an investigation into lenders, and mortgage backed securities investors are beginning to push lenders for mortgage buybacks for poorly underwritten mortgages. My guess is that ultimately there will need to be some sort of principal reduction program or revision to the bankruptcy laws to solve this crisis, and I can absolutely see reduced property tax revenues as the catalyst needed to get one of these processes started. What do you think will happen? Let me know in the comments section below.
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Remy
November 10, 2010 @ 10:12 am
Whalen has a point re: property taxes, but I am in foreclosure, and my bank, US Bank, has continued to pay the property taxes so they stay in front of a sale by the county for unpaid taxes (property taxes trump any mortgage.) The bank just adds the taxes they’ve paid onto the redemption amount, and any loan modification that might occur (I’m working on it) prior to a foreclosure sale would require a repayment of the taxes the bank paid, even if a principal reduction is involved in the modification.
What is more worrisome for local and state entities is the reduction in property values (and therefore property tax revenues) after either a foreclosure sale or a loan principal reduction / loan modification. How will the resulting shortfall of tax revenues be made up? Who will pay?
Since the states and local municipalities (counties, townships, cities, and villages)rely in part on property taxes for everything from school funding to street maintenance, my guess is the mill rate (the factor that is applied to the property valuation to come up with the property taxes) will have to go up, and ALL property owners will end up paying increased taxes to offset the decline in value of foreclosed properties.
Why this doesn’t put a fire under state legislatures and other state and local officials to collaborate on a broad, fair and all-inclusive solution is anyone’s guess. In my state, the legislature has “changed hands” and I’m guessing no one as yet has really looked at this problem.
Meanwhile, my bank continues to stall the loan modification process with excessive paperwork and lack of internal corporate communication, while someone ready, willing, and able to afford a mortgage that accurately reflects the property’s real value faces homelessness. That would be me.
Remy Ceci
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Michael Kraus Reply:
November 10th, 2010 at 11:15 am
Remy, it is a good point that you raise, the reduction in property values will probably have as great or greater an effect on property tax revenues as people who stop paying taxes due to foreclosure.
As to your point about borrowers, lenders, and governments coming to the negotiating table to figure out a workable solution to this problem, I have to believe that is on its way. I think either the AG investigations or litigation from borrowers and investors will be the catalyst.
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