Converting REO’s to rentals could help housing recovery according to Fed Official

St. Louis REALTOR, Dennis NormanFederal Reserve Governor Elizabeth A. Duke, while speaking at the Federal Reserve Board Policy Forum last week, discussed the effect on the housing market that properties acquired by banks and lenders through foreclosure (REO’s) and suggested that if some of this inventory was converted to rental property by the lenders, this may have a positive effect on the housing market.

Supporting this claim is the fact that there are expected to be an estimated 1 million or more REO’s a year through 2013 and that these properties are “weighing heavily on the market for owner-occupied houses” and that, in contrast to the market for owner-occupied houses, the market for rental housing has been strengthening lately. To this point, in the past year, apartment rents have increased and vacancy rates have dropped significantly.

Governor Duke said “the weak demand in the owner-occupied housing market and the relatively high demand in the rental housing market suggest that transitioning some REO properties to rental housing might benefit both markets. Such conversions might also be in the best interests of lienholders and guarantors if recoveries from renting out properties exceed those from outright sales. Over time, as financing conditions ease and the number of REO properties to be sold declines, the share of properties sold to owner-occupants and sold to investors for rental will adjust commensurately.”

She went on to say that small investors are already converting some foreclosed properties to rental units on a limited scale. Duke said, “larger-scale conversion, however, has been hindered by at least two factors. First, managing single-family rental homes is expensive unless the properties are concentrated within a geographic area and investors can be certain of acquiring a critical mass of properties. Second, regulatory guidance and standard servicing practices have typically encouraged GSEs, FHA, servicers, and financial institutions to actively market REO properties for sale and to consider rentals only as a short-term income generator while the properties are being marketed.”

To address this issue, Governor Duke said that in August, the Federal Housing Finance Agency (FHFA), working with the Treasury Department and the Department of Housing and Urban Development, issued a request for information seeking ideas for the disposition of REO owned by Fannie Mae, Freddie Mac, and the FHA, including ideas for turning these properties into rental housing. Together, the GSEs and the FHA hold about half of the outstanding REO inventory and so may be able to aggregate enough properties to facilitate a cost-effective rental program in many markets.

I’ll give Governor Duke credit for thinking outside the box for ways to help the housing market recover. Whether or not it is practical, or even possible, for big banks, Fannie Mae, Freddie Mac and HUD to do this is another thing, but it will be interesting to see what comes of it.

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