Builders taking on the banks

With large investment banks a thing of the past, more bank failures on the horizon, the American financial system in disarray and lenders hoarding cash, it’s hard to predict what the future holds for the building industry. But if the recently formed Coalition for Responsible Bank Behavior (www.pathtodefault.org) has anything to say about it, the chaos in financial circles certainly shouldn’t be taking down developers and homebuilders with it.

The coalition, formed earlier this year in San Diego by a collection of builders, attorneys and work-out specialists including Barratt American President Michael (Mick) Pattinson, hopes to force lenders to play by a consistent set of rules versus what the group’s members say have been a series of contrived defaults that have led not only to foreclosed projects, but hibernating or bankrupt development companies. At the same time, the coalition’s 85 members – whom are now geographically dispersed across the country – are focused on assembling the type of intelligence required to warn other builders about to face similar circumstances.

“The banks aren’t straightforward with customers regarding bank policy or decision making, so we’re left to piece together the jigsaw puzzle, and now can forewarn other builders who aren’t yet in the process but know what’s coming,” explained Pattinson to me in a recent phone interview.

The short-term goals of the coalition are quite specific, intending to leverage the political power of a key economic sector and put pressure on a banking industry that’s already proven itself to be less than responsible. These goals include raising the consciousness of both banks and builders about an entire industry in peril, encouraging builders to fight banking abuses, enlisting the media to tell the builders’ stories, contacting federal and state agencies and carefully documenting any patterns of poor and unethical bank behavior.

At the heart of the issue are inconsistencies between banks in their work-out dealings with builders. Citing regulatory issues that tie their hands, many banks are reportedly forcing their clients into defaults when other banks continue to work in tandem with builders to maximize the return of assets. And the stakes are significant: according to the coalition’s website, many lenders are selling foreclosed properties at 30 to 40 cents on the dollar when they could be getting twice that amount by avoiding the foreclosure process in the first place. Moreover, by forcing builders into default or bankruptcy, an entire supply chain of subcontractors, suppliers and consultants don’t get paid, leading to more layoffs and exacerbating the housing recession.

In many cases, these defaults aren’t due to the natural progression of a transparent series of steps but the contrived inventions of banks desperate to hold onto as much cash as possible. “In many cases, the banks encourage the builder to continue with the hope of potential loan renewal,” states the coalition’s website. “The banks seek to be made whole while the builder exhausts its cash. When the cash is depleted, the bank informs the builder they will not continue funding.”

So how does the lender justify such decisions? By relying on a ‘made to order’ deflated appraisal that backs up its findings – which, in a twist of irony, is the polar opposite of the puffed-up appraisals that helped mortgage lenders justify lending on $600,000 homes really worth closer to $500,000 during the boom years. In both cases, the true victims seem to be analytical objectivity, and eventually, the U.S. taxpayer.

Over time, the coalition also has other solutions it’s exploring to help an industry avoid similar scenarios in the future, such as eliminating the personal guarantee and making construction loans, like many purchase mortgages, non-recourse. Another major goal is to revamp the current commercial appraisal process so the process is transparent to the borrower, halting ‘mark-to-market’ rules that include panic-stricken sales comps and which don’t adequately reflect stabilized values, and initiating a three-appraisal rule to compete against sole in-house appraisals which tell the lenders exactly what they want to hear in order to declare a technical default.

Finally, the group suggests that the timetable required for a work-out on a multi-million dollar development should be expressed not in weeks or months but three to five years, and future loans should last the life of the project. Given the list of half-finished projects strewn across the country, I’d imagine that a host of cities, counties and homebuyers would certainly agree that the current solutions simply aren’t working.

While it’s undoubtedly sad that long-standing relationships between banks and builders have deteriorated to this point, it’s understandable that part of the conditions of a $700+ billion taxpayer bailout should have required both mortgage and commercial lenders to act with objectivity, fairness and transparency. Concludes Pattison, “We need every state and Washington, D.C. to ask lenders to explain themselves. If this isn’t the biggest fraud in the history of the world, then I don’t know what is.”