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Editor’s Note: Dennis Fassett is a former corporate finance executive turned real estate investing “Cash Flow Mercenary.” Dennis specializes in single-family and multi-family cash flow properties and thoroughly enjoys assisting his fellow investors with their own strategies, including how to buy your first apartment building.
As an ongoing contributor to Mogul’s “Market News Updates,” Mr. Fassett provides us with his own unique, lively, and thought-provoking commentary on the timely industry news and events of today that are impacting our industry. And be sure to check out his other super-helpful Market News Updates. For now, enjoy...
From Dennis Fassett, Cash Flow Mercenary...
I’m still shaking my head about this one… housing bubble insurance.
I read an article recently… and while I think it’s an innovative approach, there’s no way in hell they’d be able to pay out if lots of people buy and we do have a crash. So I’m wondering if they really believe there’s a crash coming.
They wrote that that with home prices heating up, buyers are getting skittish and they’re fearful that prices could cool just as easily.
And that’s precisely what one company is betting on. Or perhaps betting against? Read on…
It seems that a Dallas-based company is now offering a down payment protection plan — insurance for your home equity.
It’s not mortgage insurance, which protects lenders. This is insurance on the skin you put in the housing game.
Here's how it works
Say you put 10% down on a $200,000 home. Your down payment is $20,000. You pay the company a one-time premium of about $1,200. You are now insured for seven years.
Three years in, your job transfers you, and you have to sell, but the value of your home has dropped. The company then pays you the amount of home equity lost, up to the full $20,000 down payment.
The product allows you to insure up to 20% of your home's value at the time of purchase to a maximum insured amount of $200,000. That could be 10% on a $2 million home. The term is seven years, and the home must be owner-occupied, so no rental properties. The premium varies depending on the amount insured and on the state of residence.
Now comes the catch
Even if you sell your home at a loss, you might not be able to recoup all of your lost equity, or even any of it. That's because the company measures your home value according to a government index, and the index measures by state, not by house.
When a claim is submitted, the company will pay an amount equal to the lesser of the actual loss in sales price, loss in the state home price index as measured by the Federal Housing Finance Agency or the insured down payment. Home prices vary not just by state, but street to street. If your neighborhood's values drop more than the state's measured home price value, you would get less money back.
Despite that, the company believes the insurance will sell.
It was just over six years ago - in December 2009 - that the underwater crisis peaked.
Twenty-six percent of homes with a mortgage, which is 12 million, were in a negative equity position, according to CoreLogic. Millions of those homes went into foreclosure, but some homeowners chose to stick it out — kept paying the mortgage and lived in the home.
Today, about 4 million properties are still underwater, and millions more borrowers don't have enough equity to afford the costs involved with selling and moving.
These numbers make a strong case for the insurance, but these numbers are also historically rare. Home values, in general, rise over time. Problems in local economies can spark a downturn in prices, but this century saw the first national drop in prices.
"If you're in an area that has historically volatile home prices, maybe it's a good idea, but remember, for 75 years we went through a housing market where most people did fine," said a talking head consultant at the Consumer Federation of America.
The vast majority of borrowers today is paying principal on their loans, adding monthly to their home's equity. If borrowers want to protect themselves further, they could just pay down their mortgages more.
"You can be your own insurer," the consultant went on to say. Allegedly with a straight face.
Insurance companies aren’t stupid. They’re like bookies – they want to find low probability events and insure against them. To me - this looks exactly like what they’re doing.
Your thoughts
What do you think about this type of insurance? Share your thoughts below.
Dennis Fassett
earned a BS in Economics and followed that up with an MBA in finance. After working and corporate finance and banking for several years, he started buying single family houses, and quickly built a very nice portfolio of cash flowing rentals. When the credit markets started to dry up and he couldn’t get any additional single family mortgages he shifted his focus to apartment buildings. He now has over $3 million in rental real estate. He manages most of it his self and still has a day job. Dennis has even created his own Private Equity fund to buy apartment buildings.