I hope you will forgive me in advance, but I have some things that I would like to get off my chest.
I came across a situation recently in my real estate investing business that I feel transcends all business types and industries. It’s more of a socio-economic analysis of something that is happening in American right now and I am wondering if it is part of a new trend or just the next installment of a recurring theme.
Here’s the situation (names have been changed to assure anonymity)
Jane Johnson buys a condo in a Detroit suburb in 2005. The real estate market in Michigan is robust. Houses are selling and new residential construction is relatively steady. Interest rates for residential mortgages are near historic lows and exotic mortgages like ‘negative amortization’ and ‘110% financing’ are readily available for borrowers of nearly every credit situation.
Jane is a younger woman in her mid 20’s. She is climbing the corporate ladder and her career is progressing steadily. She enjoys living in her condo and entertaining guests and spending time by the pool in the summer. She comfortably makes her $1,300 monthly mortgage payment (including association dues).
Alas, Jane finds love and gets married to the man of her dreams in late 2006. Her husband owns a home near Jane’s condo and the decision is made that they will live in her husbands home. Now, Jane needs to do something with her condo.
The real estate market has started to turn down from when she bought the condo in 2005, when she paid $145,000 for it. Jane decides to rent her condo for $1,100 per month. She reasons that she the will just cover the $200 per month out of pocket until the real estate market turns around and she can sell her home for more then she paid.
Throughout 2007 and into 2008, Jane lives happily with her new husband and collects the rent on her condo. She nervously watches the real estate market dip further and further. Foreclosures are on a meteoric rise. She hears stories of houses and condos selling for only fractions what she owes on her own. Jane starts to worry a little bit more.
Then, it happens. Jane receives notice that her tenant is moving out. She quickly takes stock of the fact that there are still dozens of vacant condo units in her complex that are brand new that are still sitting unsold. The condo developer is offering cut-rate pricing to sell them - $30,000 less than what Jane paid! Jane talks to a real estate agent and the agent confirms her worst fears: she won’t be able to sell her condo anywhere near what she owes on it. Jane starts to worry a little bit more.
With hers and her husbands income, Jane can still make the condo payment even if there is no renter (or even if there was a discounted renter paying $800 per month). Jane and her husband don’t like the thought of this though. You see, that $500 per month could be much better spent on going out to eat and taking weekend jaunts to Las Vegas or Charleston. As her condo renter’s exit looms, Jane starts looking at what ‘other options’ she has on her condo.
Jane has been talking to a lot of people she knows who are in similar situations; zero or negative equity in their homes. She finds that many of her young, well heeled, social and corporate climbing peers have been ‘letting their payments go’ - simply not making their payments. They have discovered that some mortgage companies and banks will allow a “short sale,” wherein they will accept a discounted payoff on the note(s) owed on houses.
Jane revels in this thought. “You mean, I can just sell my condo for less than I owe on it and the bank will be o.k with this?” Jane asks her friends. “Sure,” they say. “But, your credit might get hurt for a while, but you can ‘repair it’ and bring your score up and get another house again within 6 months to a year.” Jane smiles at the thought of this. She is happy that she has a solution to her condo problem.
Jane talks to her husband about what has learned and he concurs. But, her husband wisely maintains that they should talk to someone knowledgeable in this areas of real estate and also consult real estate attorney. Jane agrees.
Before meeting the attorney, Jane learns through the husband of a friend that not making on-time mortgage payments can have a significantly bad impact on her credit score, worse then she initially thought. She further learns that banks usually won’t consider short sales unless there is imminent threat of foreclosure and that she can be liable for debt forgiveness as personal income and pay taxes on what was forgiven.
Jane and her husband meet with a real estate attorney and ask lots of questions. The attorney has, by now, encountered dozens of people just like Jane and her husband. He is smart and knows how the game works. He advises them of all their options and the legal ins and outs. What he says just confirms what Jane and her husband already know. Then, the attorney winks, nods and says: “if you were my little sister, I would say just stop making payments.” Jane beams at these words - just what she was looking for: a licensed professional giving her the greenlight!
Jane and her husband talk it over. They really want to buy that new plasma TV for the downstairs bar. After all, NFL football season is approaching quickly. They talk about their credit situation and decide that Jane having bad credit wouldn’t really be that bad: they can just use hubby’s credit to get things until Jane’s credit improves and, when hubby is fully extended on his credit, they can then use Jane’s credit again. It’s really a magical formula they feel that they have found.
Jane is really happy with her decision to let her house go and force the bank to a short sale. She thinks about this on her way to work the next day. “Those banks have enough money, anyway,” Jane says to herself. The lessons her grandfather told her about ‘your word being your bond’ and ‘living up to your obigations’ never enter her mind as she weaves her way through the congested traffic. Jane is also glad her husband agreed with her decision. “Besides,” she thinks, “if he disagreed with me I could just divorce him anyway.”
Consequences.
I think this word has been purged from the vocabulary of the majority of the populace in the United States. People always have to have an ‘out’ on something they are undertaking, they always have to hedge their bets.
Think about it:
- If you don’t like your house payments, just stop making payments
- If you don’t like your spouse, just get a divorce
- If you don’t like your job, just get another one
- If you don’t like your family, just move away
- If you don’t like monogamy, just be with anyone you want
- If you don’t like the way you look, keep eating anything you want - just get a ‘tummy-tuck’
No, I am not having the same, age old gripe-fest that “this country is going down the toilet.” I only seek understanding. I am a businessman and I want to know my customers. It is striking me more and more every day that the case is that people don’t want to have any consequences for their actions - they just want to ‘do what feels right’ and move on.
I recounted my recent experience with the mortgage story just to illustrate a point. More and more people are content with not living up to their obligations (signing your name on a legally binding document promising to pay a set amount on a regular basis for something is indeed an obligation).
Another factor may be in play here: people don’t want to admit that they either made a mistake or that they made a decision that turned out to be wrong.
What I want to know is this: is this ‘consequence free’ lifestyle a new trend or is it just a new manifestation of the same underlying current in our culture?
There are strong implications in this question for entrepreneurs and marketers everywhere. I will be keeping my ear to the ground on this subject and others like it in future posts - so be on the lookout.
Do you believe in consequences?
Adam,
I must say this was a fantastic post. I don’t give kudos like this often or freely either.
Here’s my take for what it’s worth.
I think this “consequence free” lifestyle, as you call it, seems to be a newer trend that has sprung up in the last decade or so.
It has, and is going to continue having, deadly reprecussions for our country at large.
First, I do not consider myself an optimist or a pessimist, but a realist. I strive to see things for what they truly are, not what I wish them to be.
There are no fast and easy answers to your question. I could write an entire treatise on this topic, offering up different explanations.
But, first, let’s start with the financial side. A lot of the blame for the current state of affairs, from widespread defaults on mortgages, to living beyond our means because we want everything here and now, is a result of the financial profligacy perpetrated by the Government, particularly the Federal Reserve.
This takes me to one of the issues I sharply disagree with you on; namely, a post you had made about Alan Greenspan. I don’t see Greenspan as a brilliant economist, but a traitor.
Good people can disagree, but my argument against Greenspan comes down to a few things. In a nutshell, Greenspan used to be a strong advocate of free-market capitalism. He studied philosophy extensively under the late Ayn Rand. But, as far as I’m concerned, Greenspan opted to forego principle for power.
His chosen profession was anathema to the free market because the very role of the Fed chair is to be a price fixer, specifically fixing the price of money via interest rates.
But, for the time being, let’s forget about our diverging views of Greenspan. My point here is the easy monetary policies under Greenspan for the better part of the 90’s and early into the new millenium, led to the financial profligacy we’ve witnessed over recent years.
When the government distorts interest rates, and makes money exceedingly cheap, it sends out the wrong signal to consumers and businesses; moreover, all that cheap money has to go somewhere, so inevitably, it will engender speculation in various asset classes. In the latest round, it was real estate.
As people saw everyone and their mother start to speculate in real estate and making easy money, the bidding of properties elevated prices to ridiculous levels. A bubble was formed and, like all bubbles, it had to eventually implode.
This sort of financial profligacy also creates a moral hazard. And this moral hazard is the same of which you speak: a culture that does not respect consequences as much as it should.
Like the saying says, “Easy come, easy go.” Buy a few homes when times are good and money is cheap, and should things blow out, well, just let the stuff go back to the bank.
To be fair, the banks were just as guilty as the speculators, because more often than not, the banks were part and parcel of the speculation itself. Of course, it came to bite them in the ass in the form of the subprime fiasco.
But, again, much of this can be traced back to corrupt government policies that distort the free market.
Here’s an interesting little story for you, somewhat of an aside. I am trying to get a refinance on some properties with other investors we know. We all have high income (200k+ plus a year); very high credit scores; full doc; and low debt. But we can’t.
Exasperatedly, while I was on the phone one day with yet another mortgage broker, I said “If people like me aren’t able to get investor refinances, who is getting them? Who are the banks loaning money to?”
Her answer: people with low income and poor credit, but FHA approved.
Now, in a free market, nobody withc crappy credit and low income is going to get a loan. People like me, who have displayed my responsibility with an 800+ credit score, would be the first in line.
But when the Government will pick up the tab if the FHA backed homeowner defaults, it’s a no brainer for the bank to give that person a loan in this environment over Dan Ho, because Dan Ho isn’t backed by the government, high income and good credit be damned.
Now this sort of welfare obviously isn’t just for the poor. Corporate cronies on wall street get the same special treatment and creates more moral hazard and a “consequence free” society.
Let’s take Greenspan’s bailout in the late 90’s of the Long-Term Capital Management Hedge fund.
What was the consequence and message of this action? Obviously it was “if you blow up, and are big and important, don’t worry, we’ll bail you out with taxpayers money!”
And so it was again with the recent Bear Sterns bailout.
This leads to excessive speculation, risk taking, and moral decline, because businesses and people start to think, well, if sh*t hits the fan, someone will bail me out; it’s not my responsibility.
Of course, all consequences do have actions, even if we like to delude ourselves into thinking they don’t. It’s just that the consequences are nowadays spread out over a large group of people rather than the people who perpetrated the act.
For instance, if the Fed keeps bailing out Wall Street cronies, it has the effect of being a tax on all of us. Which decreases the purchasing power of the dollar due to inflation. If the dollar is devalued, other countries no longer look at the dollar as a good investment. Our country becomes weaker because of it.
Other countries, like China, who are hungry and in the incipient stages of integrating a market-oriented philosophy, will outcompete our bloated, spoiled, ’society owes me a living’ mentality.
And, this is all a corollary to the ‘there are no consequences’ mindset that you speak of. This attitude is pervasive and insidious. America originally became the greatest and most powerful country in the world because, despite all of our flaws, we once had a work hard ethic…a belief that a man had to earn what was his, had to be productive, and that the world did not owe us a living.
Is there hope for America and our “culture”? Of course. We still produce some of the best entrepreneurs in the world, but our complacent, insular, and consequence-free attitude is a disease that will undermine our hegemony in the global market.
Americans, long at the top of the food chain, are going to wake up in a scant few decades to see we’ve been surpassed by countries who understand there is such a thing as individual responsibility and consequences for our actions.
Dan
My apologies, I caught a typo after I hastily published my post before I scanned it.
In the sentence “Of course, all consequences do have actions, even if we like to delude ourselves into thinking they don’t.” I obviously meant to say “Of course, all actions do have consequences, even if we like to delude ourselves into thinking they don’t.”
-Dan
Dan,
Thanks for your detailed and well thought out comment. I really like how you tied the consequence free lifestyle in with government bailouts of companies and financial market turmoil. Initially, I didn’t even think to go that high level with it, so thanks for pushing me a little further for next time!
Your insights on Greenspan are pretty salient as well and deserve merit.
There are two anti-Greenspan books out: The Age of Ignorance and Greenspan’s Fraud that I am interested in reading.
I like the book “When Genius Failed” about the LTCM debacle. It is written by Roger Lowenstein and is simply a great read and inside look at what happened.
Entrepreneurs always find solutions to problems and we’ll find our way out of this mortgage mess that is throwing problems at real estate investors everywhere. We just have to keep working on solutions.
Thanks again for your thoughtful comment.
Adam