Friday, Aug. 7, 2009 | 3 a.m.
- Whether to walk away: Housing's moral minefield (3-22-2009)
- Builder: It is 'rational' for homeowners to walk away (3-13-2009)
Las Vegas is at greater risk than other cities that its homeowners will walk away from their mortgages even though they could afford them, according to a study by two Chicago universities.
Not only are depressed home prices a contributing factor, but when neighbors and friends see someone they know defaulting on their mortgage, the moral constraints and social stigma are lessened and make it increasingly likely that more foreclosures will result, according to the study by the University of Chicago Booth School of Business and Northwestern University.
The study finds that 26 percent of all mortgage defaults are classified as strategic, meaning the homeowner can afford to pay.
Las Vegas, which leads the nation in foreclosures, is vulnerable. The recently released study shows that 17 percent of households would default even if they could afford to pay their mortgage if the equity shortfall reaches 50 percent of the value of their house.
The median price of homes sold in Las Vegas has fallen more than 50 percent since June 2006, and in its most recent study zillow.com said 67 percent of Las Vegas homeowners are underwater — when the amount owed exceeds the home’s current value — and more than 80 percent of the homes bought from 2005 to 2007 are underwater.
As the foreclosure capital of the nation, Las Vegas is vulnerable because the study shows that the willingness to default increases with the proportion of foreclosures in a ZIP code. People who know someone who defaulted are 82 percent more likely to declare their intention to do so.
Although the first wave of foreclosures was triggered by subprime loans resetting monthly payments beyond what people could afford, job losses and frustration among underwater homeowners will contribute to the next wave.
“I think Las Vegas is one of the worst markets from the point that a lot of people are underwater,” said Luigi Zingales, a professor at the University of Chicago who conducted the study with two other professors. “If the forecast is correct, the situation is not good.”
What will determine the number of Las Vegans who will walk away is how they see the future, Zingales said. If they see the market rebounding, they will stay in their homes for now.
Prices have stabilized over the past two to three months, and sales have reached record highs.
“I think it depends on how people perceive the economy and if they see home prices rebound,” Zingales said. “They will hold off and not walk away. But it they don’t see things improving, they will lose hope, and there can be massive defaults.”
That would add to the inventory of homes on the market, depress home prices and potentially stifle an economic rebound. That would also create more financial woes for lenders.
Jeremy Aguero, principal of the research firm Applied Analysis, said it’s not unusual for Las Vegas homes to have fallen from $400,000 to $200,000, and people are going to make the best economic decision for themselves. Aguero said he thinks the number of people who will walk away will be limited, but it’s still a scary scenario for the next six months.
“If people look at walking away for purely an economic decision, we are going to have a lot more people walking away from their homes,” Aguero said. “It would create a huge wave of problems and ramifications for the banks if a mass of people walked away from their mortgage obligations all together. It would be huge and a disaster.”
So home prices in the coming months will be a clue to what happens, the experts said. It’s a function of value and how people influence one another.
No households would default if their equity shortfall were less than 10 percent of the value of their home, Zingales said.
“Once the numbers become a bigger percentage of the value, the temptation is much greater,” he said. “If there are a lot of people negative, there is a very high risk. Our study shows there is a highly contagious effect.”
The social stigma of default lessens if others are doing it, Zingales said.
Richard Plaster, founder of Signature Homes, said the social constraints of walking away are lessened when people see people like the Fertitta family filing for bankruptcy protection for Station Casinos.
Plaster suggested any uptick in people walking away will be gradual as they realize they will continue to remain deep underwater despite any payment reduction they might get from their lender, Plaster said.
“I do believe we are going to see a lot more people as time goes on realize their first responsibility is to theirself and their family,” Plaster said. “They are moving in that direction because it is in their best interest. They are paying an anonymous investor on their home loan, and the problem was caused by malfeasance to some extent.
“They wonder why they should be buried unless they believe home prices are coming back. And when they see more people walk way, they won’t feel so bad. It could be a contagion where everybody does it.”
Plaster predicts those who are only 25 percent underwater are unlikely to walk away. Others will choose to live in their home for several months, not make any payments and use the money to pay down credit card debt and take care of other needs.
That could be good for Las Vegas because money would stay in the community instead of being paid to outside investors, he said.
Shari Olefson, author of “Foreclosure Nation: Mortgaging the American Dream,” said she thinks the number of people who walk away will be limited because she doesn’t expect prices to fall much further.
Besides, it’s complicated for families because they have to find a new home and put their children in a new school, she said. Others will be unwilling to take a hit on their credit that could affect them for three to five years if they try to buy a new home or new car. It would affect their ability to get loans, and interest payments would be higher.
Olefson said she is concerned, however, that over time some will become fatigued with their home values and get more comfortable with the thought of walking away from their mortgages. Many are waiting to get loan modifications, but if that doesn’t happen, they are vulnerable.
Olefson said the decision to walk away is a conversation people should have with their pastor rather than their financial adviser. She said she considers it wrong for them to pursue walking away even though she understands people are angry when their neighbors go through the foreclosure process and that brings down others’ home values. It’s easy to make excuses because Wall Street contributed to the problem, she said.
“I think they should investigate every alternative before they seriously think about walking away from their obligation,” Olefson said. “It is un-American to walk away from obligations. Can you imagine if we all did that?
“Sarah Palin resigned as governor (of Alaska) because she did not think she could be effective in the last year in office. What if every politician left during their last year for the same reason?”