REO Rent-To-Own Model Falls Under Closer Scrutiny

by Nora Caley
on June 07, 2017 No Comments
Categories : E-Features

Companies that buy real estate owned (REO) properties and then market them as rent-to-own homes say they are providing opportunities for homeownership to an underserved market. But recently, some bad publicity, and a decision by Fannie Mae, has cast a negative image on these transactions. Consumer advocates say the REO “rent-to-own” model has not worked to bring good-quality starter homes into the market and note there are better ways to serve this population.

In May, U.S. Rep. Elijah E. Cummings, D-Md., a ranking member of the House Committee on Oversight and Government Reform, announced that Fannie Mae and the Federal Housing Finance Agency (FHFA) had informed his staff that they are ceasing sales of REO properties to rent-to-own company Vision Property Management and its affiliates. Cummings, who had sent letters to the FHFA and to Vision requesting documents, said in a statement that he applauded the decision and that he would “welcome additional measures to prevent other companies that buy homes from Fannie Mae from willfully ignoring their responsibilities as owners and landlords, endangering tenants, and promoting abusive lease-to-own schemes.”

Advocates say one problem with companies that buy REO properties and offer them as rent-to-own is that in general, the properties are offered “as is” and the renters must make repairs in the homes. These consumers sign land contracts, or contracts for deed, in which they make payments to the seller over time, such as 30 years. In some states, if the buyer defaults, the seller can evict the buyer, who ends up forfeiting all of his or her previous payments.

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That model poses unique problems for consumers, according to the National Consumer Law Center (NCLC). In 2016, the NCLC published a report, “Toxic Transactions: How Land Installment Contracts Once Again Threaten Communities of Color,” and recommended that the Consumer Financial Protection Bureau (CFPB) issue rules governing land contract transactions. The rules should require an appraisal of the property, an inspection to establish the true condition of the property, assurances that the property taxes are paid, and fair application of the payments made by the buyer, as well as prohibit contractual clauses in which buyers can lose their investments in the property when there is an early termination.

In April of this year, the NCLC released its “Policy Recommendations for a Strong State Law on Land Contracts,” a policy brief “to assist state lawmakers and advocates who want to do something to stop predatory land contracts from decimating their communities.” Among the suggestions is the following: Require the seller, usually a company that has purchased these REO homes in bulk at a discounted price, to make repairs until a deed is conveyed to the tenant-buyer. If the buyer makes any repairs, those expenditures should be recoverable.

Other NCLC recommendations include establishing a reasonable statutory interest cap of 2% above the market index, requiring an independent appraisal and recording the land contract within 30 days.

“Some of these companies are claiming they are helping with homeownership,” said Sarah Bolling Mancini, an attorney with the NCLC. “That’s a suspect claim.” The borrowers are really tenants but without the tenant protections that most states give these consumers, and it is rare that they actually buy the home.

A better alternative, she says, is to have two separate contracts, the land installment contract and the lease with option to buy. “With lease-to-own contracts, you have the option to buy the house, but if you don’t exercise the option, you are still a tenant,” she said.

Bolling Mancini said Fannie Mae’s recent decision regarding Vision is commendable. “It is consistent with Fannie’s mission of furthering homeownership that the company will now take into account what its large REO purchasers are doing with these homes. This is an important step forward, thanks to the efforts of Rep. Elijah Cummings and excellent reporting on the problems with Vision and other similar companies.”

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The reporting was a series of New York Times articles that described some of the houses that had significant problems and needed major repairs. For its part, Vision explained its processes to MortgageOrb in 2016:

“After we acquire a property, there are often critical maintenance issues that have to be dealt with, and if it needs a new roof, power or water source, we’re going to get that done,” Jon Buerkert, chief business development officer at Vision, told Orb during an interview in December. “But when it comes to things such as carpet, paint, upgraded appliances or fixtures, we leave that up to our occupants. We sell them on the fact that this is their canvas, and they can do what they want with it. So long as they’re making payments and we are not getting notices from the city, we are not going to be bothering you.

“The little wrinkle to that is that sometimes, there is one repair that is needed that a tenant just can’t do,” he added. “If that’s the case, then we help him or her do that. Our thought is, if we can get an occupant in the home who is able to handle 75 percent to 90 percent of what needs to be done, then we’re happy to help that person out with that last 10 percent to 25 percent – whether that is connecting a water line to the well or putting a new roof on. But that’s a very involved, complex process – and it’s not easy. Fortunately, we’ve been able to compile a large network of local contractors who can do this work. This is also what really sets us apart. We have an account services department that handles all of the payments – but we also have carved out a little department within that so that when a customer calls with one of these types of requests, we have the resources to handle that. It’s a very hands-on approach – we are very communicative with our customers.”

Fannie Mae, in a recent email to Orb, said, “Following an extensive review, Fannie Mae will no longer sell REO properties to Vision Property Management. Fannie Mae remains committed to providing liquidity, stability and affordability to the U.S. housing and mortgage markets and being a leader and innovator in neighborhood stabilization efforts.”

Earlier this week, the state of Wisconsin, also citing the New York Times articles, filed a lawsuit against Vision, its subsidiaries and its CEO, Alex Szkaradek, in Milwaukee County Circuit Court. The complaint alleges that nearly 200 of the dilapidated, often foreclosed upon properties that Vision purchases are in Wisconsin and that the company induces tenants, mostly low-income consumers and consumers with compromised credit, to lease the run-down properties, with the prospect of someday being able to purchase them.

According to the complaint, Vision requires the tenants to rehabilitate the property in three to four months, pay all of the overdue taxes, and resolve any outstanding building code violations. The properties have had sewage in the basement, mold, insects, and, in some cases, no running water or electricity. One tenant, the complaint noted, had to pay a $100-per-month lawn mowing fee that had not been previously disclosed. The complaint asks for restitution to the tenants and to cease the rental, evictions and foreclosures in Wisconsin. (A spokesperson for Vision said the company is not available to comment.)

There are other programs designed to help consumers buy a home. Among them is the Federal Housing Administration’s (FHA) 203(k) program, which enables homeowners and home buyers to finance both the purchase of a home and the cost of rehabilitation with one loan.

“The benefit is for the buyer who can lump renovation costs into one mortgage,” said Ashley Bean, vice president of asset management at Altisource. “This is a potential homeownership opportunity for buyers who have reasonable credit and a low FHA down payment.”

Bean said Altisource works closely with home buyers who wish to use the 203(k) product. “First-time buyers should seek support and advice from real estate and lending professionals before considering a construction loan,” she said. “Professional support will help ensure that buyers understand the immediate and anticipated work needed, costs, and support in obtaining optimal results in the prescribed timeline for completion.”

Altisource also offers Hubzu, an online real estate auction marketplace, which recently launched new features to help home buyers purchase bank-owned homes for their residence. Hubzu users can now see upcoming listings pre-auction and place bids on homes that are contingent on obtaining 203(k) rehabilitation financing.

Both government-sponsored enterprises said they are working to get more REO homes to residents than to investors. Fannie Mae said that nationwide, approximately 64% of its REO dispositions have been sold to owner-occupants since 2009.

Lisa Tibbitts, director of public relations, corporate communications and marketing for Freddie Mac, said the focus of its REO sales program has always been on selling to owner-occupants. “From January 1, 2009, to March 31, 2017, we sold 525,422 properties nationwide, and 67 percent were sold to owner-occupants,” she said. “We’ve sold comparatively few properties to Vision Property Management. Nevertheless, we’re exploring ways to limit our business with investors that engage in rent-to-own schemes and other unscrupulous activities.”

Other companies in the REO rent-to-own space have been accused of unscrupulous activities. In April, the City of Cincinnati filed a lawsuit against Harbour Portfolio Advisors LLC claiming that Harbour had purchased distressed, foreclosed properties and resold them to consumers through “predatory and unconscionable land sale contracts.” The suit charges that Harbour failed to register or maintain its properties located in Cincinnati and sold or rented the properties without disclosing the known defects. The homes have city code violations, the suit noted, and other nuisances, and Harbour failed to abate these.

In November 2016, the CFPB petitioned the U.S. District Court in Michigan to enforce Civil Investigative Demands (CIDs) that the bureau had issued to Harbour in September. A CID is a subpoena issued by an administrative agency asking for materials needed for an investigation. Harbour had claimed, among other things, that the CFPB had exceeded its statutory authority in issuing the CIDs because the Agreement for Deeds (AFD), or land installment contracts, did not involve a loan or a debt. The court granted the CFPB’s petition, noting that Harbour’s AFD might constitute “credit” under the Consumer Financial Protection Act, Truth in Lending Act, or Equal Credit Opportunity Act “because they obligate the purchaser to pay a principal sum, plus interest, through deferred monthly payments.”

Other companies are providing affordable housing, and even helping consumers qualify for mortgages, with rent-to-own. According to the U.S. Census Bureau, the homeownership rate is 63.6%, which is flat compared with 2016 and 2015 but has been steadily declining.

“You’ll see a significant gap between people who want to own homes and the folks lucky enough to qualify for mortgage credit,” said Jeremy Healey, CEO of Battery Point Financial. “You really see that occurring in two primary areas. One is people who still have recovering credit and are working their way through, and the other is lower-value homes that are tougher to finance.”

Battery Point, which Healey co-founded in 2013, offers several products and services to create homeownership opportunities for under-banked customers, according to its website. Among them is a rent-to-own pilot the company launched in January. “They are fully underwritten,” Healey said of the borrowers. “We reviewed their credit, documented their income [and] verified their employment. We take the traditional steps a lender takes in putting someone into the program. We want to be able to help them graduate into traditional financing.”

The agreements have a lease and a buyout option. If the consumer wants to buy the property, which Healey said he or she can do after as little as six months, Battery Point can provide the financing, or the consumer can find another lender.

Healey acknowledges that rent-to-own has had some negative publicity lately but maintains that the model could be one solution to the falling rate of homeownership. “Whether rent-to-own or any of these products can be used to help solve this problem is distinct from the question of, did people use these programs to sell homes they shouldn’t have sold and use ways to finance the sale of a deficient home product?” he said.

Nora Caley is a Denver-based freelancer.

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