Gordon Banks Homes and dice

I’ve been asking the question a lot recently: How do we both transition troubled borrowers out of homes they can’t afford as painlessly as possible and spur home buying in a market where most buyers are afraid to catch a falling knife? Clearly the government sector and the banking industry aren’t making much headway in either of these particular areas.

So here’s a slightly complicated and more than slightly innovative idea that I’ve heard bandied about more than once: “Fractional homeownership.” The idea is that if a borrower can’t afford a home because the mortgage payment or principal is too high, they can instead sell equity in their home to a passive investor, who would consequently share the equity gains or losses in the home’s value. In a way, it’s part renting, part owning your home.

Of course the owner-occupant would not own 100 percent of the home, but would still have full use of it. Institutional investors would have a stake in it as well. The argument is that there is no moral hazard involved because it would essentially be like selling shares of stock in your home. These shares would have to be securitized. These securities could of course be well-diversified by region or by home value.

That’s the idea. Not my idea, because I have a few issues with it: First of all, I wonder how many institutional investors who got burned buying mortgage backed securities would want to take yet another gamble on home values. Home values do increase historically, but slowly and methodically, and given that the average owner lives in a house for only 6 years, I wonder how great the return would be. With mortgages, at least you’re looking at steady monthly payments (or that was the idea before the mortgage meltdown).

The other issue is improvements to the home. One of the biggest boost in the last decade to home values has been the incredible renovation boom, which of course generally adds value to a home. Would the owner be willing to pay in full for a renovation if they don’t own the entire home? Would an investor have the right, seeing as he/she is a fractional owner, to have a say in said renovation. This is not a small item; as I said, home renovation has been one of the driving factors in home price appreciation.

And then there are all the tax and insurance issues involved, which in my mind could get mighty sticky. What if the house burns down? Does the fractional owner get a portion of the insurance payment? And wouldn’t the government insist that the fractional owner pay his/her fair share of the property taxes?

It’s an interesting idea for sure, and one that shouldn’t be tossed aside, but I don’t think in the current environment that it’s the quick fix this current housing crisis needs. Unfortunately, it’s just plain not drastic enough.

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