Sunday, May 04, 2008

Why Banks Hate Foreclosures

In the mess of the sub-prime collapse, you occasionally hear that the banks purposely lent to people they knew couldn't pay back the loan. This why they get the loan money and keep the house. Seems like a pretty good deal. Why don't banks do this all the time?

Banks are a business--they don't really want the house, they want the money. You can't pay your workers with bits of a home. You can't use it to invest. You can really only use it to live in, but all the management staff has a place to live already. Homes are what economists call "illiquid" assets--assets that can't turn into other things easily. Banks prefer liquid assets such as bonds, futures contracts, stocks, and cold hard cash.

Can't the bank just sell the house it forecloses? That is what they try to do, but each day it takes costs the bank money in the form of lost opportunities. CNN reported that people who gave up the home to the bank tend to trash the home. They rip out piping, steal toilets, take out cabinetry, lay claim to fixtures, and punch holes in the wall. One family grabbed a pair of decorative columns from a home. Homes like these have to sold at a discount or the bank pays to fix them up. And then they have to pay to keep the house from accumulating additional damage while it sells. It all adds up to time and money down the hole in the floor where the toilet used to be. And banks don't like it.

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