At a conference on housing finance last month, a collection of investors described their innovative "rent-to-own" products.
Rent-to-own schemes have long exploited the poor. Naturally, marketers address that problem with euphemisms. Today, it's called lease purchase. The arrangements work in myriad permutations, but the basic deal is that a person rents a home and pays for an option to buy it at a later date.
All the panelists hailed the product, calling it a "yield enhancer" that would increase profits. In a standard lease, one panelist explained, the owner covers costs like taxes, maintenance cost and insurance. With lease purchase, the renter pays those expenses. And it's easier to evict because the occupant has only a rental agreement. It's not a foreclosure proceeding against an owner, after all.
One went further. Eli Shaashua, of Red Granite Capital Partners, described it this way: "Basically, it's an added fee to the rent. For us, it instills pride in homeownership for some tenants who cannot currently when they rent a house own their own home."
Having pride in ownership means that the renter takes care of the property more carefully. So that's a good thing — for the owner, that is.
Shaashua went on to explain that his options last generally for two years. A renter pays a bit extra for the right to buy the house at a predetermined price, one above the current value.
Then Shaashua delivered the kicker to the roomful of would-be investment managers: "Most times, given the reality, tenants do take it, but it's hard for them to execute the option," he said. "Our experience is that most stay until the end and then they say they cannot come up with the down payment or decide not to stay in the property."
Voila, free money. This amounts to an admission that the product exploits consumers' lack of financial savvy. This shouldn't be surprising. Who are you going to bet gets the price right, an aspiring home buyer or analyst with access to oceans of data on prices and historic trends?
"I regret that my words at the panel were taken out of context and understood in a way which is completely different than the one I was intending to convey," Shaashua said in response to a request for comment. "Our firm actively engages, and incentivizes home ownership and community renewal, which, according to our experience and our opinion, constitutes a clear win-win scenario for all parties involved. However, despite our intention to encourage home ownership and the given incentives, we noticed that the conversion rate to home ownership does not meet the level we hope to achieve."
The country is facing a shortage of rental housing. At the same time, financial giants like the Blackstone Group have come into the market, raising worries that such investors would neglect the upkeep of the homes they bought or inflate another bubble. There may be some of that, but they have acted to stabilize plummeting prices. So the influx of financial firms hasn't been entirely malign.
The rent-to-own business appears to be a small, grubby niche of finance. People I spoke with said that the big players were not doing rent-to-own. And I couldn't find any serious Internet presence for Red Granite Capital Partners.
Yet even if rent-to-own is a small, dark corner, there are some important lessons to be drawn. The first, obvious one is that someone should look out for renters in markets where people might take advantage of them. That's where the Consumer Financial Protection Bureau comes in. As it happens, the very thing Republicans would like to do now that they control Congress is gut this fledgling agency.
This is another lesson. Today, we are having a debate about how to properly run a housing finance system. About seven in 10 new mortgages have government backing, mainly from Fannie Mae or Freddie Mac. On one side is pretty much everyone on the right, center and left-of-center. They argue that the government needs to have a much-reduced role. There are various positions, but the main one is that the market can deliver more mortgages more efficiently to more people.
But there is another side: That the top-down, dominant government role works. Melvin L. Watt, the Obama appointee who now heads of the Federal Housing Finance Agency, seems to hold a lonely position in this camp. He is pushing Fannie and Freddie to expand credit, widening the types of mortgages they will back from the private sector. In doing so, he is reversing direction from his predecessor, Edward J. DeMarco. Watt is staking out the position that the government can be a responsible steward for most of the housing market.
In recent months, Watt has pushed through changes to allow Fannie and Freddie to buy loans made to borrowers who made lower down payments on houses, loosened up the mysterious "credit box" at the giant mortgage companies and lowered fees.
Some critics argue that the real problem is not tight credit from banks but lack of demand, because the middle class is getting squeezed.
But both things can be true. The economy is certainly not producing high enough wages for people to be able to afford homes and that bears addressing. But credit is tight and can be loosened as the economy turns up.
Loosening credit naturally leads to a queasy feeling for people who well remember the excesses of the last decade. Conservatives and some Wall Streeters are criticizing Watt. They are doing so while still advocating "reform" for Fannie and Freddie — code for privatizing the mortgage market. They seem to have a point: Didn't we learn anything from the housing crash?
Actually, we did. We learned that the private sector ran amok, selling inappropriate loans to unqualified buyers. This is not what Fannie and Freddie will be doing under Watt's watch.
Watt is doing "all of the kinds of things we would have liked to have done at the peak of the crisis," said Christopher J. Mayer, a housing expert at Columbia University. "It's refreshing for people to say that homeownership is important for wealth accumulation. You have to do it responsibly, but government needs to play a role."
Doing it conscientiously, of course, is the key.
These Watt changes are an important test. Can the government do it when the private sector, with its rent-to-own sharks, cannot?