How About Home Lease Swapping as a Mortgage Market Cure?

Loading...
Loading...
Dear Readers, As you know, one of the principal drags upon consumer demand in the U.S. macro-economy right now is continuing trouble in the primary and secondary mortgage markets. Indeed, insofar as the nation is now in the throes of a classic Fisher-style debt deflation, as we've noted at this site repeatedly, mortgage debt can be credited - sorry, pun foreseen but not quite intended - as 'public enemy number one.' Well, in this connection, a very clever friend and I have been discussing what ails the primary and secondary mortgage markets for a while now. In particular, we've smarted over the unavailability of 'cramdown.' And now a recent conversation with him along these same lines prompts this post.   So, here's how I'll queu it up: First I'll present you with five thoughts that do not seem as yet to have been thought all together at once.  And then I'll indicate how thinking them together looks as though it might consitute a nifty way to deal with a sizable number of troubled mortgages - a way that requires no new legislation what ever, but simply new ways of using an already existing private infrastructure.   1) First, it seems to be well understood that many troubled home mortgages are subject to formidable creditor collective action problems among multiple lien-holders, and that this constitutes one of the principal impediments to successful restructurings of some troubled mortgages. In other words, restructurings that would maximize the net present values (NPVs) of troubled mortgages, hence maximize benefits to the full collectivity of creditors - as well as the debtors - are impeded simply by 'hold-up' power wielded by some creditors who wish to take a larger 'slice of the pie' than they ought have in comparison to other creditors.   2) Second, it also seems to be well understood that the legal institution of bankruptcy is expressly designed to solve creditor collective action problems of the just-mentioned sort, by enabling b'ruptcy judges, sitting in equity, to act on behalf of the full collectivity of creditors with a view to maximizing NPV.   3) But alas, It also is well understood, at least among mortgage creditors and debtors, as well as b'ruptcy judges and lawyers, that 'primary residences' are excluded from the U.S. B'ruptcy Code's protections, by Section 1322(b)(2). This means that bankruptcy is not able to perform its customary value-maximizing and market-clearing function in respect of that class of asset which underlies troubled debt in those markets that now are operating as the principal drag on the U.S. economy - homes underlying mortgage debt, including most 'underwater' such homes.   4) But now, wait - it also is known, among some at least, that 'house swapping' has emerged as an attractive means of facilitating moves by many home-owners, in what otherwise remains a most difficult envirnoment where outright sales and purchases of homes are concerned.  Per these arrangements, one simply purchases one home with another, trading ownership rights in the homes in question. In effect, segments of the housing market have returned to pre-monetary, bartering forms of market exchange, as one might expect in an environment in which credit - hence money - is now difficult to come by.   5) Finally, it also is known that for many people and firms in many markets - that for jetliners, for example, not to mention automobiles - an attractive substitute for outright 'owning' a particular property is *leasing* such a property, for some contracted period of time. Under such arrangements, one forgoes residual claims on the property in question, hence the right to control disposition of that property for the full duration of its existence unless and until expressly relinquished in a sale, and instead maintains control for some shorter period.   Now, do you see where this is going?  Pull these thoughts together:  Surely one's 'primary residence' for Bankruptcy Code purposes need not be held in what property lawyers call 'fee simple,' but instead can be held in the form of 'leaseholds,' right? Well, then, what if 'house swapping' were now sometimes to take the form of 'lease swapping' rather than 'fee simple [i.e., 'outright ownership'] swapping'? Here's how it would work: A moves out of the house that he owns in fee simple, and leases B's house. B moves out of the house she owns in fee simple, and leases A's house. A and B both file for bankruptcy. Each is now able to modify his or her own mortgage because the mortgage is on a house that is not the debtor's principal residence. (To preempt arguments that some dissenting creditors might make, to the effect that A and B intend all along to move back into their original homes later, which would render these still their principal residences, let A and B contractually commit not to swap back.) Now, were all of this to occur, it seems to me it would offer three wonderful inter-related prospects.    1) First, would this not enable two home owners with troubled mortgages - as well as their creditors in aggregate - to enjoy the benefit of value-maximizing bankruptcy protection, by leasing one another's homes to one another, such that their 'primary residences' would no longer be their *mortgaged homes*?    2) And might this very prospect itself, even as simply an option available out there in the marketplace, not at long last break through the logjam of creditor collective action challenges to sensible principal-reductions for troubled mortgages economy-wide?    3) And finally, would homeowners not then be able to begin making use, even at this very moment, of an already very well established web-based architecture of house swapping to do this, such that no new legislation of any sort would be required? If that is correct, we might have here a very nice means by which private actors - lenders, borrowers, and attorneys alike - can begin to repair the still troubled mortgage markets still dragging down the macro-economy, and to do so at once, without waiting for legislation or any other form of extraordinary intervention. Now of course, this works only, if at all, for lease swaps, not ownership swaps. For the latter would surely be viewed by the courts as what we lawyers call 'fraudulent conveyances' - actual transfers of title intended to defraud creditors. But this is fine, for lease swapping is all that we need here to qualify for the NPV-maximizing bankruptcy solution to the creditor collective action problem. And simply moving, as lease swapping entails, is rather less readily characterized as a transfer, hence as a fraudulent transfer. Certainly it's not a transfer of title, as distinguished from a transfer of resident, and it's the former to which fraudulent conveyance appertains. It's also the case that this solution is helfpul only for 'underwater' home mortgages, since debtors with equity lose the Bankruptcy Code's equity exemption not only by transferring title, but also by moving out. But this is fine too, for two reasons. First is that underwater mortgages constitute by far the most vexing component of that post-bubble debt overhang that is at work in our debt deflation. And second is that underwater homes are those from which debtors are most tempted to 'walk away,' meaning that creditors themselves have yet another reason to favor the bankruptcy availability that lease swapping could bring in these cases.  The more you think about it, then, the more workable it looks. And it even ought to look more familiar than I'm suspecting it does. Why? Because thousands of lawyers out there learned bankruptcy and related law from LoPucki & Warren's classic Secured Credit casebook, and Problem 14.3.d in that casebook, now in its 6th edition, countenances a possibility much like that we're imagining here. So ... creditors, debtors, lawyers and other advocates looking for NPV-maximizing solutions to our continuing mortgage troubles, what say you? (Well, please include in what you say, provided it's a good idea, a word or two of thanks to Lynn LoPucki and my other very clever but in this case unnamed friend, who now are very much part, in the most helpful of ways, of this conversation!)
Loading...
Loading...
Posted In: NewsPoliticsPsychologyEconomicsHotGeneral
Benzinga simplifies the market for smarter investing

Trade confidently with insights and alerts from analyst ratings, free reports and breaking news that affects the stocks you care about.

Join Now: Free!

Loading...