Midnight Run

This is the second installment of a three-part series (click here to read the first) on how the breakdown in lending standards has forestalled the home building industry's economic recovery. The stories will focus on how we got to where we are today, how foreclosures and plummeting property values are affecting a new community in Indiana, and the analysts' best guesses on when the downturn will end.

It's all a little surreal. as you take a right into the Woodland Trails development on Arbor Trails Drive in the Franklin Township section of Indianapolis, all seems well. The community, built just three or four years ago, looks like any other suburban subdivision. The sidewalks are spotless, and the lawns are well kept. The modest two-story, three-bedroom homes sport pick-up trucks in the driveways and Colts decals or flags on the windows. This is working-class nirvana, a place where factory workers and truck drivers as well as public service workers such as teachers and police officers can carve out their piece of the American dream. A place where you can nurse a beer on your back porch and see the stars at night.

Yet as you drive through the subdivision, it soon becomes clear that something is wrong. Make a left on to Birds Eye Drive and across the street from a house with a nifty Colts emblem on the mailbox is an obviously empty house with a for-sale sign. Go down the block a bit more, and the neighborhood stops looking like the place the average middle-class couple would want to raise their family. Across the street from another vacant house is a home with a pick-up truck with a flat tire, an ominous-looking purple Lincoln, and a bluegreen Chevy Impala from the mid-1960s that needs a lot of work.

APARTMENT BOUND: Mike Pope now realizes that owning a home takes more resources than he originally planned for, so he plans to live in an apartment for about $800 a month and pursue his dream: building NASCAR race cars.

Credit: Sharon Dunten

Make a left on Hemlock Way and the first house on the left is for sale. Everything's fine for a while, and then you make a right on Knobstone Lane and the house on the corner of Knobstone and Salamonie Drive is empty. The home is clearly abandoned, with waist-high weeds growing in the front yard. Across the street, further up Knobstone Lane there are two houses in a row with stickers indicating the properties are in foreclosure. The aluminum siding on one home's right side is flapping in the breeze. The other house has a long crack on the left side of the front garage door. The talk around town of families making so-called “midnight runs” in the dead of night, fleeing the harsh judgment of repossession, seems to be embodied here.

Pass the retention pond on Knobstone Lane and on the left is yet another foreclosed home, this one with a missing mailbox and the for-sale sign knocked over. Across the street from the playground there's some trash lying in the street, perhaps a piece of fencing. Two doors down from the playground there's another vacant house.

Go another quarter-mile and Knobstone Lane becomes Knobstone Way. Marking the transition is another foreclosed house, and three doors down is the home of Mike Pope, 24, who's emerged as the classic example of a young person on the economic margins who should never have qualified for a new-home loan in the first place. Pope opted for foreclosure this summer when the interest rate increased on his FHA-insured 2-1 buy-down loan and he was hit with local property tax increases.

Pope's 2-1 buydown loan started at a low interest rate for the first year and went up a percentage point each year. The loan then stays fixed after the third year. As of early June, Pope had fallen far behind on his payments. His take-home pay of roughly $2,000 a month from his night job as a machinist could take care of the mortgage payment, but there was little left over for utilities, food, clothing, and gas, which was still hovering around $3 a gallon for much of the summer. Currently, gas and food alone eat up whatever take-home pay he has left after paying the mortgage.

Pope's situation is like that of many other families in Franklin Township, a section of Indianapolis south of the city's downtown that records the lion's share of new building permits in Marion County. The county encompasses the city of Indianapolis and all surrounding townships and operates as a combined city-county government. RealtyTrac, a national database of foreclosure activity, has named Indiana a top-10 foreclosure state for several years running, and about half those foreclosures are in Marion County. According to the RealtyTrac data, while 42 percent of the 6,572 cases of foreclosure activity in Marion County for the first four months of 2007 took place in inner-city neighborhoods with older housing stock, Franklin Township, where much of the area's new construction occurs, accounted for 6.1 percent of the county's total foreclosure activity. The township's total percentage of foreclosures is bound to grow this year as more new homeowners like Pope, living on tight margins, fall prey to rising interest rates and expensive local property taxes.

To be sure, foreclosure was not in Pope's original plans.

“My wife Cara and I were living in an apartment more than three years ago, and we wanted to get out of the apartment and into a house,” says Pope, a stocky young man with short red hair who dresses like the modest night-crew worker he is, in a dark blue T-shirt and blue jeans. “At least when we started we thought we could afford the payments,” Pope explains.

When Pope and his wife moved into the house in July 2004, they were confident they could handle the monthly mortgage payment of $750, which included homeowners insurance but not property taxes. He was working overtime on a regular basis, and both he and the mortgage company counted on it.

Everything started off fine, but based on the 2-1 loan he signed, the interest rate went up a point in July 2005 to 5.25 percent from 4.25 percent, which meant the monthly payment went up $100 to $850. This was about the time the shop slowed down, and Pope started losing overtime hours. To make matters worse, in early 2006, Pope received a property tax bill of about $3,000 that included a nominal fee for taxes on the lot in 2004 and back taxes for all of 2005. With the property taxes added in, the monthly mortgage payment increased to $1,050, and by March 2006, Pope was falling behind on his payments. Then in July 2006, the interest rate on the 2-1 loan jumped to 6.25 percent—the final increase—and the payment was now $1,189. At this point, Pope was considerably behind, and late last year, he negotiated with lender Countrywide for his payments to increase to $1,587 for one year starting in April. Pope says the payment would ultimately drop to about $1,000 a month by April 2008.

For all practical purposes, it's too late for Pope. He and his wife can't keep up, especially since his overtime, which can increase his monthly take-home pay to $2,500 a month, is not consistently dependable. In addition, faced with the prospect of spending more on daycare than a nominal job could bring in, Pope's wife decided instead to stay home with their child. To save money on food and daily household living expenses, his wife and three-year-old daughter, Brianna, moved in with his wife's grandmother, and Pope was left to keep the property up and find a way out. He thought about taking on a roommate, but decided not to because he wanted to have privacy with his wife when she joined him on weekends.

BLEAK SCENE: A drive around some of the new neighborhoods in the Franklin Township section of Indianapolis reveals a stark landscape of foreclosed homes—some are simply abandoned while others are vandalized.

Credit: Sharon Dunten

Pope has no complaints about the quality of the house, but he does fault his builder, Arbor Homes of Indianapolis, on two counts, and is upset with the original lender, Republic Bank, as well. He says the builder steered him into the 2-1 loan and that the lender counted his overtime as income to help him qualify for the mortgage. He believes he wouldn't have qualified otherwise. Pope also claims Arbor didn't fully explain how expensive local property taxes would be. Pope says the builder's salesperson told him property taxes would be about $80 a month, when in reality they were well more than double that amount.

“If a homeowner says they weren't told about property taxes, they didn't hear,” says Curtis Rector, president of Arbor Homes. “We provide the property tax information in writing in our homeowners' manual,” he adds.

In response to Pope's claim that Arbor steered him into the 2-1 loan and that the lender used his overtime to qualify him for the mortgage, Rector says the builder has nothing to do with loan approvals.

“I wouldn't have access to the home buyer's loan information,” says Rector. “Arbor Homes closed about 600 homes in 2006 and ... although we have preferred lenders ... we worked with at least 30 different lenders.”

Another neighborhood couple, who requested anonymity, reports a similar experience with misleading property tax information.

“We budgeted for the taxes to be about $1,200 a year, but the taxes were actually double what we were told,” says the neighbor, a schoolteacher who says that between her salary and her husband's pay as a welder the couple earns an annual salary of about $80,000.

With that kind of income and a fixed 5 percent mortgage, Pope's neighbors will make it through the property tax hump. They plan to stay for the duration, but what they're left with is a depressed neighborhood that is falling apart around them.

“They're giving loans to people who can't afford to make the payments,” says the schoolteacher. “I did the right thing and got my credit score up to 780 and even bought less house than I could afford so I didn't get in over my head,” she says. She is happy with her home, but now, because of what's going on around her, she admits, “I don't even like having my family over because I'm ashamed of the neighborhood.”

Tammy McAtee, 44, who moved into Waters Edge, a development by C.P. Morgan Communities, says only one salesperson out of the 10 communities she visited—not the one she ultimately bought her home from—told her the straight story about the expensive local property taxes and the impending foreclosures that would plague the area.

“My own personal Realtor also told me that there would be a lot of foreclosures from people who wouldn't be able to pay their mortgages, that it would take a good five or six years for the neighborhood to recoup and for us to see any return on our investment,” she explains.

McAtee and her husband, Michael, 47, who moved into their new home three years ago, looked at a lot of other subdivisions, but even with the various warnings they received, they settled on the $160,000 C.P. Morgan home in Franklin Township. It's what they could afford.

PUBLIC ADVOCATE: Republican State Rep. Mike Murphy has been carefully monitoring foreclosure activity in Franklin Township, Ind.

Credit: Sharon Dunten

“I think a lot of these young families got roped into something they weren't fully aware of,” she says. “They were clueless and that's really sad ... so we'll see how many foreclose in the next year.” At least eight homes are up for sale on her block, and around the corner there are about four foreclosed homes.

McAtee says she works as an office manager for a heart catheterization lab and her husband works as a facilities manager for a banner company. They have a 17-year-old boy and a 12-year-old girl. She says between the two jobs they will make ends meet, but she worries about problems that could occur, such as an unexpected illness.

“You never know what's going to happen; one of us could be injured on the job,” she says.

“What's scary is that if we had to sell for emergency reasons there would be no way out,” McAtee says, explaining that with so many foreclosed properties nearby, it would be next to impossible for her and her husband to sell their home for what they paid for it.

Franklin Township is a builder's dream. Mostly converted from old corn and soybean fields, the land is flat and fairly easy to prepare for development. Seventy-two percent of the voters are Republican, which usually means they are pro-business and more likely to be pro-development. While the township is home to only about 3 percent of Marion County's population of 860,454, it accounted for 28 percent of the new single-family building permit activity in 2006. Of the 1,918 single-family building permits issued in 2006, 542 were in Franklin, which was down considerably from the 809 issued in 2005 and the 947 issued in 2004, one of the housing boom's peak years.

Home builders have clearly capitalized on the township's willingness to accommodate such high levels of residential growth. The Census Bureau reports that the township's population jumped 49.5 percent from 1990 to 2000, up to 32,080, and recent estimates by local officials put Franklin's population at around 43,000 today.

It's really striking to drive through the area. There's little question that home builders profited heavily here during this decade's boom. National builders such as Beazer, C.P. Morgan Communities, Centex, and Pulte do business in Franklin Township, as do locally based builders such as Arbor Homes and Davis Homes.

Ride down the main thoroughfares of County Line Road, Southport Road, and Troy Avenue, and all you see for miles is new subdivision after new subdivision. There's not a store or a gas station in sight, and forget about light industry.

That's why the tax issue looms large in Franklin, where property taxes have been high for years because the township lacks a solid mix of residential, commercial, and industrial development. In fact, Franklin Township has the second highest property taxes in Marion County. According to 2006 assessments, the owner of a home assessed at $150,000 in Franklin Township pays $2,845.10 in annual property taxes.

FULL SPEED AHEAD: Even with all the foreclosures locally, big builder C.P. Morgan Communities has lots sold and plans to keep building.

Credit: Sharon Dunten

State Rep. Mike Murphy, who represents Franklin Township in the state legislature, says for years local residents have fought various opportunities to bring amenities or industry into the township. In the 1980s, the locals quashed a plan to bring a horseracing track to the township, and according to Murphy, consistently battled every economic development plan that came to the table. Meanwhile, Murphy says residential development was popular with both Republicans and Democrats in city government.

Of course, with all the foreclosures and the high property taxes, attitudes have changed. Working in tandem with the county's Metropolitan Development Commission, the township revamped its comprehensive land-use plan last year to include zoning regulations that accommodate a better mix of residential, commercial, and industrial development.

“In the past, some people wanted to keep [Franklin] township residential, [while] others opposed [nonresidential] development because the projects weren't planned well,” says Lincoln Plowman, a detective and councilman who lives in Lincoln Township.

“As the township grew, more logical places emerged to locate commercial and industrial properties,” says Plowman, pointing out that the construction several years ago of an off-ramp on I-65 created a natural location for the township to locate businesses and retail stores.

The township plans to attract businesses through tax increment financing (TIF), a state program in which the township issues a bond that can be used to help build commercial or industrial buildings or local roads and sewers. Property taxes are then used to pay off the bond. Another possible approach to attracting more commercial and industrial development involves setting aside sites for 10-year tax abatement programs.

Well intentioned though this might be, it's not going to help Pope's family or dozens of others like them this year. In fact, it may not help local residents for at least a decade. Murphy tried to aid his constituents by introducing a bill that would have required builders to calculate the local property tax and present that information to new home buyers. What originally passed by a wide margin of 96-2 was slowly whittled down by the lobbying of home builder and lender trade groups, who asserted that their members couldn't be held liable for calculating the property tax. Murphy's proposal was ultimately defeated 49-48 last May.

The homeowners we interviewed in the Franklin Township subdivisions were upset by all the foreclosure activity. Some were angry at the mortgage lenders, builders, and Realtors for putting people into new homes with loans they couldn't possibly afford, others were scared for the future, but most just wanted to know how this all came to pass. Most of these people are just trying to get through their work-a-day lives, and they put a lot of trust in their government and the people they do business with. They feel something has gone terribly wrong—and they can't put their finger on who is really accountable.

But it's no wonder they can't figure it out—there is no one-size-fits-all explanation. There are many reasons for all the foreclosures in the Franklin Township area and throughout Indiana. Here are three big ones: First, Indiana lost roughly 100,000 manufacturing jobs over the past six years. That may turn around somewhat, since Honda is building a plant in Greensburg, Ind., that will employ 2,000 people and bring supplier jobs to the Indianapolis region. But the reality is that the state lost 17,108 manufacturing jobs in the last year alone, and people who are out of work are more likely to foreclose.

Second, Indiana has more affordable housing than most states, which means that new homes are accessible to young people in entry-level jobs. Many of these young families are much like the Popes, meaning they live on tight budgets and depend on overtime to make ends meet. Some of these buyers say they were not told they would need extra money in their monthly budgets to cover routine maintenance and repairs or escrow money for annual property taxes. So, when something goes wrong with the car or a spouse has to take care of a sick child, the bills pile up and families fall behind.

And, Indiana did not experience the dramatic rise in property values that homeowners enjoyed on the East and West coasts. Couple that with more and more foreclosed properties on the market, and it gets tougher and tougher for families to sell their homes and get out with the money they put into them.

At press time, the locals in Franklin Township had just received their property tax bills. The new bills are based on 2004–2005 property values as opposed to 1999 values, the way they were before. The reassessment, combined with double-digit budget increases on many line items, resulted in average property tax increases in Franklin of 35 percent or more. Tack on rising interest rates on subprime and 2-1 buydown loans and residents are concerned more people will face foreclosure. The issue is having statewide impact: By late July, Republican Gov. Mitch Daniels was looking at holding a special session on the property tax issue and having some counties redo the assessments.

Foreclosure Activity by MSA

Credit: RealtyTrac Data: MSO Foreclosure Activity - Jan. to June 2007

“As a builder without a mortgage lending arm, we've got some separation from the lender,” says Tom Eggleston, CEO of C.P. Morgan, based in Indianapolis. “We work with 25 different lenders, about six of which do the FHA-backed loans, so subprime lending is a small percentage of our business,”

Eggleston says. Eggleston insists his company makes prospective home buyers aware of the risks of homeownership, including full disclosure about local property taxes. In addition, the builder refers buyers to www.homebuyerconnection.com, an informational Web site about homeownership it sponsors with Chase, Countrywide Home Loans, and Wells Fargo, among others.

Rector of Arbor Homes says his company works hard to educate home buyers on the responsibilities of homeownership, as well, but adds that home builders can't legally make certain value judgments about prospective buyers.

“If someone walks through my door and wants to buy a home, I can't say, ‘I'm sorry, I don't think you're ready for homeownership,'” Rector says. “I'd set myself up for lots of lawsuits.”

In next month's issue, BUILDER will conclude this story by looking at analysts' best guesses on when the downturn will end.