A Simple Plan For Community Development vs. Unintended Consequences

June 2006
By: Keith S. Donald



While community development is certainly a fundamental objective of our investment activities, we can bear witness to the unintended consequences of decisions made by banks and mortgage lenders.

Over the years we have witnessed the dismal results of most major cities and their inner-city community development challenges. The inability to change the “urban blight” that is so pervasive in our cities to “urban renewal” is no accident. I can’t be sure this is the result of some insidious plan, bad luck, poor planning, or the effects of the “law of unintended consequences". Regardless of which, it is no accident.

In my role as a private lender, many of my borrowers have spent the major part of this year listening to many variations of the same story from conventional lenders. The basic story is the conventional mortgage lenders have become victims of their own marketing and exuberance. The easily attainable low-down payment and nothing down mortgages in conjunction with the lowest mortgage rates in many years has finally reached its tipping point. This evolution literally yanks the rug out from meaningful community development plans.

Let’s also include the negative impact of mortgage fraud. Inflated appraisals, straw buyers, and unscrupulous real estate professionals collaborate in fraudulent transactions that cost lenders all over America millions of dollars in loan losses.

Unfortunately the customary response by the banking and mortgage lending industry to the needed market correction is an “over-correction”. The term “over-correction” is appropriate because it causes what I am sure are unintended consequences. Once again movement towards meaningful community development is frequently a casualty.

Here is an example of unintended consequences. Before a private or hard money loan is granted, due diligence is conducted. A part of the due diligence is a credit report on the borrower and an appraisal on the property. Our properties have a maximum Loan To Value ratio of 70% of the After Repaired Value (ARV). We have an equity cushion of at least 30% on each property. If a borrower defaults this represents a relatively safe position for us because we can sell the property at a discount and still recover our investment. These criteria are intended to fuel community development even with minor setbacks.

When a borrower is ready to refinance the rehabilitated property he or she must get another appraisal done. The second appraisal confirms the values resulting from the improvements scheduled in the first appraisal. These appraisals cost between $300 and $400 each in most cases!

Here is where it gets really interesting. During the refinancing underwriting process lenders frequently conduct an “appraisal review”. This is the third attempt to confirm the value of the property. After all there has been mortgage fraud that has inflated some of the property values in the area. If fraudulently inflated properties were used as comparable sales in the appraisal, it is disqualified and replaced with a more current candidate property.

If the area in question is a “farm area” for property rehabilitation, there is a very strong probability the sale price for the replacement property will be significantly less than the actual value of the rehabilitated property being refinanced. When that happens, the value does not appear to be there for refinancing even though the property has been dramatically improved over the rest of the neighborhood!

By doing that simple change in protocol community development is stalled! Increasing property values never get any momentum, and instead of progress, we witness inner-city regression. That is an unintended consequence.

When the borrower cannot refinance the property, he or she may have to be foreclosed upon for defaulting on their loan. They may have to arrange for a note modification or some other alternative. The point is they have to change their original plans. That is an unintended consequence.

The arbitrary change in valuation by the refinance lender also impacts the private lender or hard moneylender. Even though they did all of the things they routinely do to confirm the value of the property, the lender’s decision puts their investments in jeopardy by severely reducing the amount of money the property can be financed for. These actions create an investment "no fly zone" where even private money is no longer available. That is an unintended consequence.

Now here’s the real kicker. The house, neighborhood, and zip code are all red flagged by the lenders. This becomes an area they are not willing to make loans in. Because they are not willing to make loans (due to extenuating circumstances), we continue to see “urban blight” instead of “urban renewal”. That of course is an unintended consequence.

It is these actions by conventional lenders and timing that determine whether a community will be converted by “community development”, “eminent domain”, or “gentrification”.

I would be remiss if I didn’t mention the recent decisions made by the Department of Housing and Urban Development. Their Special Housing Department (Formerly Section 8) has made dramatic changes to their expectations and qualifications for tenant housing. These changes have a dramatic impact on community development.

The very neighborhoods that have represented the needed transitional housing for tenants no longer fulfill the needs of the department. Many of these neighborhoods no longer qualify for the program. If they do qualify, the new qualification guidelines result in loan payment penalties for the landlords participating in the program. These penalties, which represent the lowest possible rents on the Fair Market Rent scale, combined with the quarterly inspections by the Housing Authorities create a very contentious and unprofitable environment for landlords.

If the inner-city neighborhoods are no longer acceptable to the Housing Authorities, guess which areas are acceptable. How about the suburbs? Your neighborhood is more than likely very acceptable. These suburban neighborhoods and their newer more expensive homes much more easily qualify for the top rental dollars on the Fair Market Rent scales. Condos, townhouses, and single-family residences fit the plan perfectly. Meanwhile, the areas most in need of community development are in "no man's land". They are abandoned until money becomes available to fund comprehensive community development initiatives.

Consistent with these moves is a very noticeable change in the culture of the neighborhoods. Since each neighborhood is unique, we will let you determine what changes may have taken place in your area.

While you consider those changes don’t forget the Department of Immigration and Naturalization. We actually have no idea how many illegal immigrants there are in the United States. A recent TV news story covered some of the cultural differences that are clearly visible in our neighborhoods. Things are constantly changing, though not always for the best.

All of this speaks to more unintended consequences. The inner cities continue to suffer, the suburbs are under attack, and no one sees the importance of securing our borders. Community development never gains any momentum. Mortgage rates are lower than they have been recently and foreclosures are higher than they have ever been.

Here are a couple of very appropriate sayings. “If you want to keep getting what you’re getting, just keep doing what you’re doing”.
And the always insightful...
“Insanity is doing the same thing you have always done and expecting different results.”

Obviously it is time for change. There is another alternative on the financial landscape. This strategy can provide alternatives and opportunities conventional mortgage lenders cannot or will not make available to you. To find out more about this new financial strategy just visit our web site: www.Cash-Now-Seller-Financing.com

There you will discover critical components to a very simple plan for community development. We provide 21st century solutions to 21st century problems. You may also discover ways and means to employ “cause and effect” with strategies and tactics that will encourage “community development” and discourage the need for gentrification or eminent domain.