Posted on Friday, December 10, 2010
With property values still tumbling, it comes as no surprise that nearly a quarter of the nation’s mortgage borrowers owe more on their loan than the home is worth. Industry studies support the consensus that the farther a borrower sinks into negative equity, the more likely they are to throw in the towel.
The severity of this catch-22 is now top-of-mind for government officials. The administration is reportedly pressuring Fannie Mae and Freddie Mac – who together own or guarantee half of the nation’s home mortgages – to make principal write-downs a key component of their foreclosure prevention efforts.
The two GSEs are currently in talks with the White House and federal housing officials who are advocating for Fannie and Freddie’s participation in the government’s newest initiatives to reduce loan balances for borrowers who are underwater, the Wall Street Journal reported Wednesday, citing “people familiar with the situation.”
Right now, homeowners who have loans with the nation’s two largest mortgage financiers are not eligible for the principal reduction option under the Home Affordable Modification Program (HAMP), which was introduced by the Treasury back in March.
It calls for reducing the principal on loans that are more than 115 percent of the current value of the property and includes incentive payments for each dollar written down by servicers and investors. But this alternative modification approach is voluntary, and both Fannie and Freddie have opted against using it.
A second initiative that the GSEs have yet to sign on to is the Federal Housing Administration’s (FHA) refinance program for underwater borrowers, which was rolled out in early August. Under the program, which is also voluntary, the federal agency will offer new FHA-insured mortgages to borrowers whose lenders agree to write off at least 10 percent of the unpaid principal balance.
Federal officials have said FHA’s program could help 500,000 to 1.5 million homeowners. But the Journal says during its first three months, the program received only 61 applications and completed just three refinances for new loans.
Industry groups and regulators say without Fannie and Freddie’s participation, the impact of the government’s principal reduction programs will be minimal and other lenders won’t feel compelled to follow their lead.
But it would be another catch-22. Writing down principals would add to the GSEs’ losses. The two companies are already into taxpayers for nearly $150 billion.
There are two very distinct schools of thought when it comes to principal write-downs and the effects – some positive, some negative – that widespread use could have on the market.
On one side, proponents argue that negative equity has become one of the primary triggers of default, and of re-default even after the original mortgage is modified using the typical waterfall of rate reductions and term extensions.
When plagued with negative equity, borrowers essentially have little at stake in keeping their homes. Supporters of an industry-wide initiative to slash outstanding principal when it towers above the property’s value say it’s a strong incentive for homeowners to stay current and could deter delinquencies in a market already saturated with defaults.
On the other side of the fence, critics question the fairness of the principal write-down practice when most homeowners are continuing to pay their mortgages every month, some of them cutting corners and tightening their belts to do so.
Other opponents are asking just where do you draw the line – is a mortgage no longer a contract that carries with it a pledge by the borrower to repay the amount of money agreed upon? They say mandates to retroactively rewrite the loan amount could have serious implications for the future of lending and the risks associated with extending credit.
Lenders and even several top administration officials have stressed that dealing with the nation’s still-growing population of delinquent mortgage borrowers has become a delicate balancing act of understanding the necessity to help responsible homeowners struggling with hardships and recognizing that they “cannot and should not help everyone,” as FHA Commissioner David Stevens put it when he testified at a congressional hearing on principal write-downs earlier this years.
DSNews Carrie Bay