The housing boom has not been a boon to everyone.
Years of prosperity and low unemployment have brought homeownership within the grasp of many Americans for whom it had once been a distant dream. Record numbers have taken advantage of this opportunity, often bringing stability to their lives and profits to the lenders who helped them.
But even this seemingly positive trend has its dark side. Escalating prices prevent many families from saving enough to buy homes, and rising rents make it harder for some people-particularly those with low incomes-to stay where they are.
Ominous predictions have also surfaced for mortgage lenders, who have been assuming more risk in their zeal to sweep up new customers. Economists and housing experts fear that a recession-or even a mild economic slowdown- could disturb the sometimes precarious financial arrangements some borrowers make in order to buy homes and, in turn, could wreak havoc on the lending community.
The Harvard University Joint Center for Housing Studies described some of these concerns in its annual report, released Monday:
"With weaker performance of affordable loans even in the midst of a booming economy, liberal underwriting practices have raised concerns over what might happen when prices turn down or unemployment rises," it said.
Offering a counterpoint to some of the rosy homeownership statistics from by the housing industry, the report said that at least five million low-income renters spend more than half their incomes on housing. Someone working full-time for $7 an hour cannot pay the rent on an average two- bedroom unit anywhere in the country.
As housing costs have risen, lenders have shown eagerness to fill in where consumers' savings fall short.
To expand homeownership to underserved segments of society-immigrants, low-income families, and ethnic minorities-lenders, insurers, and the government-sponsored enterprises have been relaxing some underwriting standards, particularly down-payment requirements, which are seen by some as the biggest single obstacle.
This situation is dangerous for lenders and borrowers alike, said Christopher Mayer, associate professor of real estate at the Wharton School of the University of Pennsylvania.
"You're looking at people who don't have a lot of money," he said. "If you encourage them to put it all in their house-particularly with a highly leveraged investment-it leaves them with a significant amount of risk."
Economists like Mr. Mayer argue that, for people with low incomes, a house and a mortgage might actually create problems, particularly if the loan has little equity.
"If house prices fall at all, these people are in real trouble financially," Mr. Mayer said. "They're facing a foreclosure on their house if they move, or if they can't pay it back."
Low-income neighborhoods are particularly prone to declines in property values, which further increases the risks for people who buy there, said Kerry Vandell, director of the Center for Urban Land Economics Research at the University of Wisconsin, Madison.
"You're just perpetrating a farce on the homeowner if you are encouraging homeownership in a neighborhood where values are going to go down, or the value isn't there in the first place," Mr. Vandell said.
People who buy marginal properties are "not building equity," and they risk "losing whatever savings they did have in their home and being thrown out on the street," Mr. Vandell said.
These somber warnings offset some of the conventional wisdom about homeownership-namely that it brings manifold benefits to individuals and society.
Most people assume that homeownership makes people better citizens, reduces crime, increases savings, brings stability to communities, and helps families stay together. If people have a financial stake in their house, they are less likely to behave antisocially or to tolerate such behavior in neighbors or children, the thinking goes. They also are said to feel more autonomous than people beholden to landlords.
Furthermore, there is the tax advantage: Homeowners may write off interest payments on their mortgages, as well as real estate taxes.
But economists say evidence of homeownership as a panacea is more anecdotal than statistical.
One of the few studies to show a clear link between homeownership and social behavior, published in 1996, found that children from homeowning families were less likely to drop out of high school or become pregnant as teenagers. One author of the report, Richard K. Green, a business professor at the University of Wisconsin, said he and his colleagues were "expecting to find nothing."
Despite the connection they observed, Mr. Green sounds a note of caution about the current homeownership fervor: Lack of general price inflation in the 1990s has increased the risk of home lending, he said.
In the 1970s, a consumer could buy a house for $100,000 and sell it a year later for $105,000-not because the land was more desirable, but because of inflation, Mr. Green said. The purchasing power of that $105,000 might be $96,000 in terms of the previous year's money, but a loan would be less likely to default because inflation would have increased the borrower's equity.
"You can have a housing market that's looking bad, and yet the loan balance is receiving more collateral protecting it," Mr. Green said.
But "in a near-zero inflation environment, if you have a lousy housing market, it's going to be reflected in lower nominal prices, not just lower real prices, which means that the loan is at greater risk."
For every housing pessimist there is an optimist or, at least, someone to point out the positives of the existing system.
Gerald L. Friedman, the credit-risk guru who founded Financial Guaranty Insurance Corp. and Amerin Guaranty, said people who own homes get a better crack at many other financial goods and services. Homeowners are considered "a better credit risk," he said.
Mr. Mayer of the Wharton School said mortgage debt encourages people to save by giving them a "structured savings plan." However, he said, that benefit may be undermined by the recent boom in home equity lending and "cash-out" refinancing.
Last year, more than three million homeowners took out more equity in cash they needed to refinance their loans, according to a Freddie Mac survey cited in the Harvard Joint Center study.
"If you're putting all this money into your mortgage but you're immediately pulling it out again, then you're not really getting the savings benefit of homeownership," Mr. Mayer said. "The link between homeownership and savings-that has historically been very strong-may not be as strong in the future as it has been in the past."
In a recession, Mr. Mayer said, a homeowner might lose a job at the same time that the home's value was in decline. If that happened, the homeowner could not easily move to a place where jobs are more plentiful without a foreclosure, which would impair his or her credit record.
"The problem is, a house ties you to a location, and recessions tend to be regional," Mr. Mayer said.
Most housing lenders know from experience that the credit risk in a downturn is very real. The private mortgage insurance industry was nearly wiped out in the 1980s by a rash of claims on bad loans, particularly in Texas.
"I've got the scar tissue to prove it," said William H. Lacy, chairman of Mortgage Guaranty Insurance Corp., the largest private mortgage insurer today and one of the survivors of the 1980s.
Some experts argue that the greatest danger today is lending without sufficient equity.
Peter F. Colwell, finance professor at the University of Illinois at Urbana-Champaign, said that when loan-to-value ratios get high, "you're on a knife's edge."
"If anything goes wrong with the house," he said, "it's more convenient for the homeowner to default than to go through with an orderly sale."
In the 1980s, high loan-to-value mortgages typically financed 90% of the home's value. Today there are many mortgages for 95%, and some home equity loans range as high as 125%. Consumers view the latter as a way to refinance high-cost debt-such as credit card balances-and roll it into mortgage debt, which makes the bulk of the payments tax-deductible.
Mr. Lacy said consumers who take this route have lower payments. But, he added, the reality is: "If they have to sell that house and mark it to market, are they going to take back the deficiency on their credit card? I don't think so."
If forced to sell a house immediately, a borrower with a down payment of 5% or less would not have enough equity to cover average selling costs, the Harvard study said.
Property values seldom decline enough to wipe out home equity of 5%, the study said, but even a modest slump combined with a job loss could "easily force homeowners without cash reserves and with little equity to become delinquent and ultimately default."
Though loans with low down payments help people overcome a major hurdle to homeownership, they also can "worsen income constraints by adding to the size of loans," the report said.
Moreover, such loans require mortgage insurance, either from private insurers or the Department of Housing and Urban Development's FHA program, adding half a percentage point or more to interest rates.
Some experts disagree with Harvard's dour conclusions. Ann Logan, chief operating officer of Fannie Mae, is among those who say good credit can make up for lack of equity.
"We've learned through experience that someone who has a strong record of managing their credit and financial situation is a very good credit risk, and that can offset a lack of savings," Ms. Logan said.
Fannie Mae offers a 3% down payment mortgage aimed at first-time homebuyers. The down payment can come from a gift or grant.
Some argue that even a down payment of 3% is too high a requirement, creating a barrier for creditworthy individuals seeking homeownership. Among those taking this view is Angelo R. Mozilo, chairman of Countrywide Credit Industries, the nation's largest independent mortgage lender.
"Three percent means everything to the buyer; they can't afford that," Mr. Mozilo said in an interview in March. "But it's meaningless to the integrity of the loan. Fannie Mae and Freddie Mac should clearly take that barrier away."
Rising home prices are allowing recent homebuyers to build up some protection, even those who put down very little, said William C. Apgar, federal housing commissioner. Before joining HUD last year, Mr. Apgar was executive director of the Joint Center at Harvard.
"You're starting to see modest house price inflation in most market areas," Mr. Apgar said. "Not so many people are right on the edge when trouble hits."
As long as housing prices are stable, loans with as little as 3% down should be well cushioned when a downturn comes, Ms. Logan said. Borrowers with strong track records of managing their finances presumably have an alternative means of savings, she said.
For instance, if a borrower becomes unemployed a year after the loan is made, chances are that the home's value appreciated 3% in that year, Ms. Logan said. "The borrower will have enough equity to pay the typical 6% broker commission to sell the house, and the sale will be enough to make the lender whole," she said.
Most defaults usually occur in the fourth, fifth, or sixth year of a loan, not the first or second, said Michael A. Quinn, senior vice president of loss mitigation at Fannie Mae. By the fourth year, a borrower will have built up some equity.
Fannie Mae offers bonuses to servicers to work out troubled loans rather than foreclosing, Mr. Quinn said.
In the last three years, it has paid $20 million of these bonuses and has put workers at some of its largest servicers to guide them with troubled loans. These steps have brought about "a dramatic increase in workouts," Mr. Quinn said.
Evidence that the loss-mitigation procedures are working comes from California. In 1996, when the state was still suffering its worst recession since the Great Depression, Fannie Mae had 1.3 million loans. Only 10,000 of them, or 0.008%, ended up being foreclosed, Mr. Quinn said.
"People will do everything possible to stay in their homes," Mr. Quinn said. "All they need to do is to get over a two- or three- month hurdle."
Last year, Fannie did 14,800 workouts, including 11,000 in which the borrowers restructured their payment plans to roll past-due amounts into the loan balance, Mr. Quinn said.
For all the risk factors, boosters of homeownership say the industry is better prepared to deal with a recession than in the past.
"Even if there is a downturn, we'll be in better shape than ever before," said Mark E. Goldhaber, vice president of affordable housing at GE Capital Mortgage Insurance, a unit of General Electric. He said lenders and insurers have adopted more advanced loss-mitigation technology and procedures.
Moreover, many affordable-housing programs require that borrowers have track records of managing finances before a lender may relax down-payment requirements. These programs also have added a counseling component togive borrowers more information about responsibilities and risks.
"We're able to mitigate the risk more significantly now than we were able to do in the early 1990s," said Mr. Apgar, the federal commissioner.
In one counseling program, only one in eight of the people counseled ended up buying a home, Mr. Apgar said. The other seven "made the right choice," he said. "Once you explain to folks what's at risk, a lot of people say, 'I'd better not buy with such a thin down payment.'"
Homeownership counseling is not always perfect.
In a 1998 letter to FHA lenders, Nicolas P. Retsinas, who then was federal housing commissioner, noted disapprovingly that HUD had "observed such unacceptable practices as borrowers simply being asked to complete homeownership workbooks without benefit of any additional interaction."
Nonetheless, experts say that the number of lending safeguards is increasing. In the future, lenders will be less likely to foreclose and more likely to try to restructure payment plans so people can keep their homes.
"We'll have more forbearance," said Mr. Friedman of Financial Guaranty and Amerin. "Lenders will find it cheaper to restructure repayment plans than to foreclose. They will be much more sophisticated about helping the homeowner win, even when the homeowner loses his job or has a setback."
Now is the time for mortgage insurers and lenders to be investing in loss mitigation systems and techniques, said Mr. Lacy of MGIC. "You do your coaching when you're winning."