Welcome to your Debt

For millions of Americans, the idea of owning a home morphed from boon to bane as the dream of having one’s own home turned into a nightmare of debt. Traditionally homes have not only played a critical and positive role in the experience of living, they have also been a primary repository of personal financial equity–both the mattress and the wad of money beneath. But as the inherent monetary value of “homeownership” has been systematically rejiggered with tax incentives and lending gimmicks, even the home’s sacred purpose has been demeaned. A place that mostly represents a mountain of personal debt can’t also be an oasis of comfort and security.

Christopher Papagianis and Reihan Salam wrote about the effect of the errant subsidies and financial strategies in a recent editorial in the National Review, entitledWe Can’t Afford this House. As Papagianis and Salam point out, political consensus in American policymaking always seems to favor housing, but it’s a knee-jerk political bias that’s now proving to be destructive for both homeowners and the country.

“The political case for federal intervention was (historically) strong. Americans had come to believe that homeownership was essential to economic security and that it made for better citizens… The high down payments and short-term mortgages meant that households all over the country held a significant amount of equity in their homes just a few years after buying them. In some cases, the value of this equity grew as the value of the home appreciated. These capital gains, in conjunction with the forced savings of mortgage payments, meant that millions of families had assets they could pass on to future generations.

The formula, however, changed dramatically at the end of the 20th century. From 1994 to 2005, the homeownership rate reached record highs,thanks largely to innovations in the mortgage-finance market that reduced down payments and minimized equity. This shifted the basic wealth-building proposition of homeownership away from savings to an almost exclusive focus on capital gains. Average down payments fell, reducing the savings required to ‘get in the door.’ More significant was the rise of mortgages that involved no forced savings: the interest-only loan, in which no equity is built because the principal is never paid down, and the ‘negative amortization’ loan, in which payments are so low that they do not even keep up with the interest, leaving homeowners more indebted, rather than less, each month.”

I’m a homebuilder and therefore no fan of the difficulties besetting our industry. It would be better for my associates and me if there were more homes to build and we could return to the problems associated with too much demand. But despite my self-interest, I’ve come to believe that artificial stimulations of the market are often wrong, having unseen, unintended consequences.

Messing with housing so that money flows better in the economy may seem like an obviously good thing, but it’s not so good when it doesn’t actually improve the lives of the human beings living in the homes. Owning a home is different than occupying it with a debt so big that the home owns its “owner.” Papagianis and Salam suggest blind subsidies don’t recognize the distinction:

“One effect was to reduce the social benefits of home ownership, because the benefits are a product of equity and not of the mere fact that a contract has been signed and a mortgage taken out. The relationship between home ownership and social goods had been misunderstood: The traits that enabled households to build up the savings necessary for significant down payments — hard work and the deferral of gratification — were misattributed to home ownership itself.”

The dream of freedom and equality in America and the American dream of owning a home have long been intertwined. The latter has been considered visible evidence of the former. It started in the early years of America as the Colonists eagerly acted out their independence by working like slaves. “By dint of severe effort,” they literally built better lives for themselves from the raw wilderness. The triumph of individual liberty became nearly synonymous with the triumph of hard work and sacrifice.

The American experience became a fundamental American value: freedom was given, but a better quality of life was earned.

There were lots of ways to earn a home, but mostly it meant working, saving and deferring gratification. Most of the original American homes were earned with brute labor and relentless patience, often requiring several generations to complete. Those homes may have taken quite a while to finish, but during the entire building process, the buildings were very often 100% owned.

In the 19th century, local “Building and Loan” associations developed tohelp people finance their homes. Many of today’s banks trace their roots back to local, and informal, home mortgage groups. Usually, the loan amount was based on a large amount of the construction having already been completed, or a down payment would be required that might have been as much as 33% to 50% of the building cost. That looks onerous by today’s standards, but the banker/friends perhaps knew the home wouldn’t be a personal benefit if it took more than it gave.

Those early banks were community-based and personal. You could borrow money based solely on your good reputation, your character and your integrity. Though that kind of banking may seem ancient and unreal, I’m thankful to have been the beneficiary of it. In 1980, when I went to talk to my banker about the process of getting a loan, he gave it to me on a handshake, without plans, without an appraisal, and without site inspection. I told him I had the foundation in and capped and had the material for the structure. I needed money to do the rest. He asked how much. I said about $30,000. He said fine and I could start drawing on an account the next day. The amount I guessed didn’t finish the house, but it got me in and my banker was pleased with how the money was spent, even though his loan didn’t result in a completed collateral. It took another five years to finish the house, but I did it slowly as I could afford the materials or pay for the work.

In a way, my informal mortgage for an incomplete home was similar to the small and incomplete tract homes returning veterans of WWII were able to purchase with friendly loan arrangements. It was an affordable good start, but the real value would be in the improvements and additions that would happen over a period of many years when they had better financial ability to make the improvements and build additions.

Among our clients, some of my heroes are those who have purchased from us only the building’s shell or even just the core structure of a larger planned building. They thereby made the initial building livable on the smallest amount of money possible and finished it slowly, as they could do the work or afford to hire the construction out to others. They simply substituted deep debt with a good plan and patience.

If we want to encourage home ownership, we’re going to have to find a better way, one more in tune with the values of our country’s heritage and especially more sensitive to the reason and purpose of homes. If a home doesn’t improve the quality of the lives within, its service is negative and that’s a tragedy no matter how well money is flowing in the larger economy.

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