The Post-Foreclosure Experience in America

Most Americans know of at least one family that has undergone the process of foreclosure.  With millions of American's losing their homes over the past 4 years, one has to wonder what happened to those families.  Did they relocate to other areas, move in with nearby family members, rent homes in the same neighbourhood or adopt some other option?  Fortunately, the good folks at the Federal Reserve (who helped create the housing bubble with their easy credit, no money down, let's flood the market with zero percent interest rate money) have actually studied the phenomenon of people losing their homes through foreclosure.  Raven Molloy and Hui Shan released their "The Post-Foreclosure Experience of U.S. Households" paper in May 2011 after studying exactly what happened to households after their mortgage has been foreclosed.  Let's take a brief look at their findings and what kind of impact foreclosure has on the housing market as a whole and on families as individuals.

Let's start by looking at a graph showing the number of new foreclosure starts by year over the past decade to put the situation into perspective:

Molloy and Shan note that where households move after foreclosure has a marked impact on the housing side of the economy; it can impact vacancy rates, homeownership rates and house prices.  For example, if post-foreclosure households tend to rent housing, there will be an impact on available rental housing supply and this increased demand could push rents upwards.  Foreclosures can also impact where families end up geographically as they may choose to move for better employment opportunities.

As a database, Molloy and Shan used credit report data from the Federal Reserve Bank of New York/Equifax Consumer Credit Panel.  This panel selects a representative sample of all American individuals with credit files; approximately 37 million individuals (or 15 percent of the adult population) for each quarter of every year between 1999 and 2010.  Each quarter, new individuals that have entered adulthood and new immigrants are added as deceased individuals and emigrants leave the database.  Don't worry about your privacy, the authors claim that all individuals in the database are anonymous, however, the database does allow researchers to track individuals and households over time by the primary individual's mailing address.  Not only does the database contain information on mortgages, it contains data on any other loans that may be in a given household including consumer loans, credit cards, student loans etcetera and, of course, the FICA scores of individuals along with data on foreclosures and bankruptcies.

Molloy and Shan were then able to compare the behaviour of households with similar credit histories and observe differences that occurred in households that had undergone foreclosures to those that had not (the comparison group or control group).  They noted that borrowers that experienced foreclosure during the early part of the decade were different than those in the latter part; later borrowers tended to be current on their mortgages, credit cards and auto loans in the year prior to the foreclosure and generally had higher credit scores.  They also note that the foreclosure group appears to be generally more economically disadvantaged than the comparison group since they have fewer credit card accounts and auto loans.

Now on to their findings.  We'll look at the impact of foreclosures on post-foreclosure migration, post-foreclosure household size and composition, post-foreclosure accommodation and post foreclosure migration distance.

1.) Post-foreclosure migration:  Keeping in mind that the authors are comparing behaviour between the foreclosure group and the comparison group, they noted that "foreclosure starts", the time when a loan enters the foreclosure process, generally increased the probability of moving over the subsequent two years.  Within the first year, 23 percent of foreclosed individuals move compared to only 12 percent in the control group.  This gap widens during the first two years and by the third year, nearly half of the post-foreclosure individuals had moved, 23 percentage points higher than the control group, nearly double the rate of the comparison group.   However, they noted that nearly half of individuals had not moved in the first two years suggesting that in some markets, refinancing is possible and that the foreclosure process is not carried through to completion.

2.) Post-foreclosure household size and composition:  The authors noted that average household size does not change much for either a household that has undergone foreclosure or the control group that had not undergone foreclosure.  Household composition in post-foreclosure cases tended to change more than the control group but, in general, there is little evidence that people end up living in larger households in an attempt to assist with living expenses after a foreclosure.  This is not the result that one might anticipate; one would expect that foreclosed households might increase in size to reduce overall household expenditures on a per person basis.  While household size does not change, household composition changes markedly.  In the comparison group, 85 percent of individuals lived with exactly the same household members as they did three years earlier.  In the post-foreclosure households, less than half of the individuals live with exactly the same household members as they did prior to the foreclosure.  This could be due to stress caused by the foreclosure process or that life events such as illness or divorce result in both foreclosure and changes in household composition.  Post-foreclosure individuals living with an adult that is at least 20 years older than them (i.e. parents) increase to 12 percent compared to 5 percent for those in the comparison group.

3.) Post-foreclosure accommodation:  Households that have undergone foreclosure tend not to have mortgages in the two year period after foreclosure and tend to be renters in single family units.  Only 6 percent of post-foreclosure individuals had mortgages in the second year after the start of their foreclosure.  Approximately 60 percent of post-foreclosure individuals live in single-family structures with no mortgage (i.e. rental property).  Most move to higher density neighbourhoods with lower overall home ownership rates.  These neighbourhoods tend to have a higher fraction of lower income households headed by females living in smaller homes.  That said, the new neighbourhoods tend not to be less desirable than the original in most cases; only about 30 percent of post-foreclosure households move to neighbourhoods that have a median household income that is at least 25 percent lower than their previous neighbourhood, only a few percentage points more than the comparison group.

4.) Post-foreclosure migration distance:  Approximately one fifth of post-foreclosure move to a new labour market meaning that most have a desire to remain within their current local job market.  Slightly more than half of post-foreclosure migrants cross tract boundaries but remain within the same county.  Less than 10 percent remain within the same tract with the balance moving a further distance away; of the total, about 20 percent move to a new metropolitan area.

In summary, the paper by Molloy and Shan lays to rest some myths about the outcome of the foreclosure process on the millions of affected American households.  Most importantly, the massive number of foreclosures in America over the past 3 years has not impacted the overall consumption of housing perhaps because demand for housing is relatively inelastic (i.e. we need a place to live).  As is commonly believed, post-foreclosure households tend to change their composition more than normal and are less likely to live in owner-occupied housing.  They tend to move to more urban, higher density, single family homes in roughly equivalent neighbourhoods after losing their homes to foreclosure.  Surprisingly, only about half of borrowers whose mortgages enter foreclosure have moved within the first two years indicating that many foreclosures are refinanced.  Household size tends to remain constant and few post-foreclosure individuals appear to move in with their parents for financial support.  It does appear, however, that post-foreclosure individuals are less likely to have a credit card and those that do, have a lower overall credit limit.