The relationship between foreclosure and the availability of credit

As a result of the huge number of foreclosures across the country over the past five years, numerous states and the federal government have created all kinds of road-blocks to foreclosing on a delinquent borrower.

This is feel-good stuff… no one likes to hear about families being kicked out of their homes and politicians absolutely love the press they get from standing up to the big bad banks.

So, why do I think the government is crazy and that foreclosing should, if anything, be made easier? Am I some kind of hard-hearted jerk?

Let me ask you a question: Have you ever stopped to consider what happens when you borrow money to buy a property? You get in touch with a bank, often one with which you’ve never done business before. You submit to a credit check and supply some documentation. Then, you sign some paperwork and they lend you hundreds of thousands of dollars.

Again, let me repeat: They hand someone they’ve never met hundreds of thousands of dollars. Would you be willing to do this?

The reason banks are willing is because they know they can get the property back from borrowers who don’t pay. The process, foreclosure, isn’t cheap. Depending on the state, it can take a bank anywhere from 3-4 months to years to get a property back from a defaulting borrower, with legal bills running the whole time.

Because they aren’t stupid, banks assume a certain percentage of borrowers will default. They have good estimates for the costs / delays inherent in the process. So, banks are in a good position to price the risk of default into their loans (to ensure that they make enough money on the loans that perform to make up for those that default).

Now you can see why making foreclosure easier, rather than harder, makes sense: The cheaper it is to foreclose, the less the bank has to charge borrowers. I prefer to live in a world where ambitious people can get relatively easy access to cheap credit (until those people screw up), I want foreclosure to be relatively easy.