Three key questions to give your ecosystem a physical: Part 3, follow the money

September 22, 2009 | Ecosystem, Essential posts, Finance, Primer posts, Theory, Titling

By: David Smith


[Continued from yesterday’s Part 2 and the preceding Part 1.]


So far, in tracing the housing finance ecosystem by examining three value chain (connections by which transactions occur), we covered housing providers finding housing consumers (Part 1), and the baton pass of recognized ownership/ occupancy rights (Part 2).


Now for the third key question.



We have to probe for the truth



Question 3: Financing a home purchase


If I need to get a lot of money to buy a home, where do I get the money, and what does it cost (up front and over time)?


In every society, owning urban housing costs many multiples of a normal persona’s disposable housing income; indeed, among my rules of thumb for gauging a housing ecosystem (yes, that’s a blog post to come) is the better the housing ecosystem, the longer the period of time over which a buyer must obligate himself or herself to acquire property ownership. 



How long do I have to keep paying for this house?


Levering capital multiple times greater than one’s annual income requires financing, whose infinite variety age cannot wither.  What form of capital can you tap, from whom (and where in the money store does your capital provider get its capital from, what is the rate, what are the fees?


You’ll have questions like these:


  1. In what forms can I get money: loans, equity investments, concessionary loans, grants?
  2. How are these different forms of capital taxed?  (Is mortgage interest deductible?)
  3. From whom can I get money: a bank, a credit union, a specialized lender, a mortgage broker, a government agency?
  4. How long a term (tenor) can I take to repay?
  5. Will the interest rate be fixed, floating, my choice, or a hybrid?
  6. Do interest rates vary based on how much I put down?
  7. Does the government provide assistance for and types of loans?
  8. What other costs or requirements do lenders impose?


Think of cash as a radioactive isotope traveling through the ecosystem.  Follow the money and it will lead you to the answers.



It has to come from somewhere


This question gets to who participates in the capital markets, and particular:


  • Banks and other retail lending outlets.
  • Secondary market makers like GSEs, investment banks, mortgage banks, or securitizers.


It also touches the additional service providers who owe their existence to the requirements of capital providers, including:


  • Mortgage servicers, who collect payments on lenders’ behalf and track them against your particular loan.  They’re unpopular now because not many loans have been modified, despite much jawboning by bystanders that modifications should be done.  (In other posts we’ll explain the theories as to why loan modification is proving relatively rare.)
  • Property and casualty insurers.  Someone who will give you financial protection against damage to the property or liability arising on the property.
  • Mortgage insurers, whom you the borrower pay to provide insurance to the lender that if you default, the mortgage insurer will buy the loan. (The largest such insurer is your friend and mine, the Federal government, in the form of the Federal Housing Administration.)
  • Environmental assessors who provides the clean bill of health – lead-based paint certification, asbestos or radon, or in larger multifamily properties, the Phase 1 assessment.



You only hope the results are boring too


  • Real estate tax escrow agents who hold the monthly payments that you make, usually as part of your monthly debt service payment, to assure that the real estate taxes, the only lien that can prime the first mortgage, are fully escrowed so the lender is not at risk.



Yee-haw!  Many title insurers are also escrow agents


  • Notaries to provide certification as to signatures, for later presentation in litigation (should things come to that).


Some of these services seem incredibly mundane, and they are, yet their presence, prevalence, and affordability represent significant accelerators or retardants of housing financial cost, and hence of housing affordability, tenure flexibility, and optimal housing consumption.  If service providers are scarce, they are costly, in money, in search costs, and in performance quality.  If they are plentiful, they will specialize and hence improve service, be easy to find, and offer cheaper fees.



Signs like this indicate a robust ecosystem


How do you the newcomer find capital providers and learn financing terms?  As with other ecosystemic variables, ease of electronic search is a good clue.  In the US, for instance, there are dozens of on-line calculation utilities, all aimed and encouraging you to conclude you can afford to buy property or borrow money. 


Beyond the Web, developed nations have extensive printed resources.  For instance, the US Home Mortgage Disclosure Act (HMDA, pronounced humm-dah), only a year younger than RESPA, which requies all lenders to report everything statistical about their lending practices.  Whereas RESPA protects you when you go to the closing table, HMDA covers lending and capital markets practices, and is designed to enable watchdogs to expose hidden (even subconscious) lending bias or redlining.


If those are unavailing, collect salesware: lender brochures, loan term sheets, newspaper ads, anything that describes a particular financial product or that purports to show how you can afford more home than you thought you could.  Such people are always selling money availability – and in making it sound cheap, they’ll clue you in to the sources and interconnections.



Yes, everything connects to everything else


Three paths through the same dimensional space.  By its nature, an ecosystem is both open-ended and never static, so any description must be at best an approximation.  For that reason, most tales of the blind men and the elephant make the wrong point. 



We’re groping toward enlightenment


To take away from the fable only the conclusion that each blind man is wrong, and we may feel to superior to them, actually misses the larger and wiser point.  Do not mock them for being incapable of perceiving the totality at a glance, for they are blind and we are not; instead, see that via their alternative means of perception, each grasps a bit of the truth, and that as they communicate one with the other, gradually they can use their network, their communication, and their reason to develop an ever-more-accurate picture of the whole, unencumbered by the prejudice of first impression.


So it should be with our exploring the housing ecosystem.  Every means of perception and deduction has its limitations, and its validity.  We can catalog its creatures, even build a typology and taxonomy, describing each like Audubon’s birds.



Try imaging that without first seeing it


Or we can be, as Moses put it, strangers in a strange land, coming with curiosity and learning by our journey.  That journey may be through a hell, as I posted in who wins from a slum?, complete with Virgil as our guide and Daumier as our illustrator.  In all cases, the point is to keep studying, keep exploring. 


We shall not cease from exploration. And the end of all our exploring will be to arrive where we started and know the place for the first time. 

– T S Eliot, Little Gidding