A Disaster Recovery Plan

By taking the same approach that was used to stimulate housing demand after Hurricane Katrina, the government can inject new life into the current market.

September 1, 2009

As it did after Hurricane Katrina, the government can inject new life into the housing market by appealing to investors.

In August 2007, when the secondary mortgage market began experiencing extraordinary disruptions, a gigantic storm started to brew over the housing, financial, and banking infrastructure. About one year later, with virtually no precautionary measures in place from Washington, the storm made landfall. The damage so far has been catastrophic, estimated in the trillions of dollars.

You can't justly compare the loss of life that results from a major natural disaster to the loss of a home due to foreclosure. Yet, there's an unfortunate similarity between the devastation of Hurricane Katrina in 2005 and the foreclosure crisis that's hitting communities across America.

As was the case with the Gulf Coast storm, the foreclosure tempest has put thousands of Americans at risk and caused serious damage to housing markets. Recovery will require the government to offer creative incentives to real estate investors to get the market back on track.

Pump the Water Out

Today's financial crisis has left many home owners under water or facing foreclosure, though the government is trying to patch the failed levees with Wall Street bailouts and mortgage modifications. What lawmakers have failed to recognize is that you can't rebuild the levee system when the country is still under water, no matter how much money you throw at it. You first need to pump out the water—which, in this case, is a huge inventory of for-sale properties.

Our nation's surplus of homes, currently about nine months of inventory, is causing significant downward pressure on home values. Based on an estimated sales pace of roughly 4.5 million this year, the inventory would have to drop by about a million to achieve the six-month supply that is the hallmark of a balanced real estate market. Until the water can be pumped out, every home owner will be harmed.

So how can we shrink inventory and create a backstop to home-value declines? By creating increased demand for real estate. The government has already started on the right track by increasing conforming loan limits and offering an $8,000 tax credit to first-time buyers. But despite these efforts, existing-home sales have changed little on a seasonally adjusted annual rate. More must be done.

Specifically, the government needs to do a better job of tapping into our country's greatest resource, the American people. Washington must provide tax incentives for Americans who have the capital and the credit to invest in real estate. One way to do this would be to follow the model put into place after Hurricane Katrina through the 2005 Gulf Opportunity Zone Act.

Speed up depreciation

Ordinarily with residential real estate investments, the property is depreciated over 27.5 years. But under the so-called GO Zone Act, the government offered 50 percent first-year bonus depreciation to real estate investors. Investors were allowed to take half, or 13.75 years' worth, of depreciation in the first year. A property valued at $150,000 would ordinarily provide an annual tax write off of $5,454. But with accelerated depreciation, the first-year tax write-off would be $75,000.

Based on anecdotal evidence from the real estate investment community, the GO Zone program attracted much-needed dollars to Gulf Coast markets. To spark demand today, the government could make the same tax benefits available not just to real estate professionals but to every taxpayer.

If 1 million homes were purchased as a result of the incentive, I estimate the program would cost the government approximately $23 billion. But unlike programs that require significant funding before results are known, the tax benefits would come only after the desired result—the purchase of property.

Thanks to more stringent loan underwriting guidelines, the days of pure real estate speculation are behind us. By mobilizing more Americans to invest, the government can help soak up excess inventory and end unwarranted home-value declines.