Foreclosure Costs Outweigh Homeownership Benefits, Subprime Study Says

Conducted by Chicago-based Woodstock Institute, which says it advocates fair and equal access to credit and capital for lower-income and minority families, the study reportedly used a statistical analysis of Home Mortgage Disclosure Act (HMDA) data and publicly reported foreclosure data to assess the impact of subprime lending in the Chicago area.

The study’s authors — Dan Immergluck, a professor at Grand Valley State University, and Geoff Smith, project director for Woodstock — said they found that, after controlling for neighborhood demographics and economic conditions, subprime loans lead to foreclosures at twenty or more times the rate that prime loans do. They said that while responsible subprime lending may reap important benefits to families that have difficulty obtaining credit otherwise, the costs of foreclosures should be taken into higher consideration by policy makers.

The findings showed that during 2002, for every 100 additional owner-occupied subprime loans made in a typical neighborhood from 1996 to 2001, an additional nine foreclosures were started in the area. With the average neighborhood in the Chicago area having about 11 foreclosure starts in 2002, the additional subprime loans reportedly reflect an increase of about 76% in the level of foreclosures, according to the study.

The report further revealed that non-owner-occupied subprime loans, although fewer in number than owner-occupied properties, have an even higher propensity to lead to increased foreclosures. A tract with just 10 more such loans over the interim period would be expected to have more than 2.6 additional 2002 foreclosures.

“Rising foreclosure levels have had a profound impact on cities and neighborhoods by reducing potential tax revenues, endangering property values, and increasing abandonment and blight,” Smith said in a written statement. “Given this, the costs associated with high-risk lending should be given more weight in policy discussions.”

When taking the loan’s purpose into account, Woodstock said that the contribution of subprime purchase loans to neighborhood foreclosures is 28 times that of prime purchase loans. While a tract with 100 additional prime purchase loans through the interim period is expected to have only 0.3 additional foreclosures in 2002, an area with 100 additional subprime home purchase loans is expected to have almost 9 additional foreclosures.

In the case of refinance loans, the study said a larger number of owner-occupied prime loans actually leads to reduced foreclosure levels. A typical neighborhood with 200 more owner-occupied prime refinance loans during the 6-year period is expected to have one fewer foreclosure in 2002.

Refinance loans make up a little less than two-thirds of current industry production according to statistics available from the Mortgage Bankers Association of America.

Meanwhile, subprime home improvement loans were found to have the largest impact on foreclosures on a per-loan basis, according to the report. A tract with 100 more such loans is expected to have an additional 9.5 foreclosures in 2002, while the effect for purchase loans is 8.9 and for refinance loans it is 7.8.

Immergluck and Smith outlined at three somewhat interrelated reasons why community reinvestment advocates and policy-makers have expressed serious concern about the explosion in subprime lending: Number one is segmentation by race — with minority neighborhoods served excessively by subprime lenders and receiving less attention from prime lenders, minority borrowers with good credit are at greater risk of receiving a higher-cost loan than are white borrowers with good credit; Secondly, the increased level of abusive or predatory practices that have been associated with the subprime industry; The third reason, supported by this study, policy-makers are concerned because the growth of subprime lending has been associated with a simultaneous rise in foreclosures.

These concerns are similar to what ACORN and the Joint Center for Housing Studies of Harvard University voiced in their recent studies.

While foes of increased regulation in the subprime market often argue that such will result in higher-cost loans for many borrowers and perhaps even reduce credit access for some, Immergluck and Smith said that “even if some worthy borrowers are prevented from obtaining credit due to increased regulation, the benefits of reduced foreclosures may justify such action.

“Foreclosures are hardly the entire costs of overly risky and irresponsible subprime lending,” they added. “Financial and emotional stress, excessive charges and fees, and other harms to borrowers must be considered.”