The homeownership rate, as reported by the US Census Bureau, stands today at 65.3 percent. When adjusted for the millions of homeowners who are seriously delinquent, the rate drops to 62.7 percent. This is virtually unchanged from the rate of 61.9 percent in 1960, notwithstanding a dramatic loosening of lending standards over the last 50-plus years. Once again, the National Association of Realtors and community advocacy groups call for a loosening of what they term “tight credit” conditions. Yet, in December, nearly one-half of all home purchase loans had down payments of 5 percent or less, and nearly one-quarter had debt-to-income ratios exceeding 43 percent, high by anyone’s standards.
As was the case in the 1920s, loose lending standards have again made foreclosures commonplace. It does not have to be this way. Nearly 80 years ago, Stewart McDonald, the Federal Housing Administration’s (FHA’s) first administrator, observed: “‘Mortgage’ was just another word for trouble—an epitaph on the tombstone of their aspirations for home ownership.”
In 1935, the FHA launched an effort to end loose and dangerous lending practices that had made foreclosures commonplace. In their place were sound practices based on sizable down payments (a minimum of 20 percent), solid borrower credit histories, solid appraisals, proper income documentation, and sufficient income to make regular payments (the included a comprehensive review of a borrower’s monthly expenses). Add a maximum 20-year loan term and a ban on second mortgages, and the result was what the FHA called “a straight, broad highway to debt-free ownership.”
This highway to debt-free ownership led to an explosion in the homeownership rate—from 43.6 percent in 1940 to 61.9 percent in 1960. These policies also led to the virtual elimination of foreclosures—over its first 20 years, the FHA paid only 5,712 claims out of 2.9 million insured mortgages, for a cumulative claims rate of 0.2 percent. At the same time, claim loss severity was only 9 percent of the original insured mortgage balance, or a total of $3 million on 5,712 claims.
As figure 1 demonstrates, once high-leverage lending replaced sound practices, the homeownership rate stagnated. And, as was the case in the 1920s, foreclosures again became commonplace. The FHA alone has been responsible for 3.4 million foreclosures since 1977. Its average foreclosure rate for this same period was 12.8 percent, more than 60 times the level from 1935 to 1954. “Mortgage” has once again become just another word for trouble.