Thursday, Feb. 12
Posted 4 p.m. Eastern
Loan modifications and preventable foreclosures
Before we get to my rant of the day, let's hear from a couple readers that responded to the previous post about Fannie and Freddie becoming landlords.
First we hear from Jeff, who works in the mortgage biz:
"Couple quick observations. I do agree with getting renters in the property -- it is safer for the lender and the community rather than having them vacant. I do not think Fannie/Freddie should be the landlord. In most communities you will have affordable housing office etc that could administer the program or actually buy them and keep them as permenanently affordable housing. the Homeowner that rents needs to be qualified based on the same criteria that a new tenant would. So if they couldn't afford their mortgage but they could afford the prevailing rent for that type of property then it MIGHT make sense. Or they maybe eligible to rent a different property in the same community via these Fnma/Freddie where they may not be able to get traditional market rental due to the delinquency on their credit report. Final observation -- The floor in any market is when the value of the property accurately reflects the price a multitude of investors would be willing to pay for a home because of the rents they could receive. Any other floor will be done via manipulation to create additonal buyers, or decrease inventory to the point that the "normal" supply/demand market functions.
Good thoughts. Now it's Dave's turn:
"You hit the nail right on the head with your last comments on the housing crisis. It is very rare in these times to read anything intelligent on the subject. The current administration wants to keep people in the same houses they can't afford and thus prolong this housing crisis. We need to get this over with already and move on. The people who can't afford their houses need to move out and buy the smaller houses (or rent) that people can't sell so they can move into the bigger houses they can afford. My opinion is that this will drag out for 4-5 more years due to misguided government intervention from officials who don't understand how the economy works and can't even pay their own taxes!"
The last comment makes a nice segue into the subject of Treasury Secretary Tim Geithner's alleged plan to stabilize our financial system. I say "alleged" because, as you've undoubtedly heard, his much ballyhooed announcement of the new Financial Stability Plan was nothing more than a pep talk. There was no actual plan.
As we saw with the stock market fall nearly 5 percent on Tuesday in response, this was a highly disappointing outcome. Now, I'm not anti-Geithner by any means. For all the bashing Henry Paulson took, my feeling was that changing surgeons (i.e. Treasury Secretaries) in the middle of the operation was a very unsettling proposition. If you are going to change surgeons, you'd at least want someone who has been in the O.R. throughout the procedure. Geithner was, as head of the New York Federal Reserve Bank, deeply involved in the various measures taken to avert financial crises over the last year-and-a-half. And on that basis, Geithner fit the bill.
But the idea that a guy who can't even figure out his own taxes is somehow going to solve our financial crisis is not only ironic, but unrealistic. Then, despite the fact that he's not exactly new to what is going on, he comes out with a whole lot of nothing in terms of the Financial Stability Plan. Maybe its just me and my cynical nature, but I get the picture that there isn't some grand plan that's all been cooked up and just waiting for the right moment to be unveiled. Instead, I have a vision of Geithner sitting at his desk with his head in his hands muttering "What am I going to do?"
Before I'm accused of picking on poor Mr. Geithner, let me say that this mess we are in is way too big for any one person. Nobody is going to single-handledly figure out the magic move to get us out, and nobody has any idea of how much worse or how much longer this might go. I think that is the main point of recent months. To believe that any one person is "the man or woman" to fix it is very wishful thinking.
I do, however, have a couple of concerns about the direction in which we are heading. My sense and my fear is that we're heading toward a mass debt amnesty for highly indebted Americans. Case in point, the Hope for Homeowners program that is currently being revamped is considering eliminating, in the words of Federal Reserve Board Gov. Elizabeth Duke (a former banker), "the requirement that borrowers share with the government a portion of any future appreciation in the property."
Are you kidding me?
As if this idea of writing down loan balances for underwater homeowners to the point of giving them instant equity wasn't bad enough, they're now considering a flat-out giveaway in an effort to jumpstart the program.
Reducing interest rates, fixing interest rates and extending loan terms are all sensible ways to accomplish loan modifications, as is the notion of suspending payments for out-of-work but otherwise timely paying homeowners. But writing down loan principal is a very slippery slope. No matter how you slice it, it is a giveaway. Not only is the amount borrowed permanently forgiven, but due to a change in the tax law there is no tax obligation on the forgiven debt. It's a gift!
Someone that borrowed $100,000 via cash-out refinancing during the peak of the market and later has that $100,000 balance -- possibly more -- forgiven, just got a $100,000 gift that they did not have to work for, pay taxes on or repay. It is a flat-out gift!
The sharp reduction in interest rates has decimated the interest income of many retirees dependent upon interest income, a fact being driven home to savers now that they're looking at their 1099s and saying, "That's all the more interest I earned last year?" Savers have already had to bail out the borrowers once in a very significant way. While we're at it, why don't we just have little old ladies living on a fixed income stuff their hard-earned cash into an envelope and give it to the high-living neighbor with the big house and shiny Beamer who can't keep up with the payments on either one. Because that's basically what it boils down to.
The other thing I sense is that the definition of "preventable foreclosure" is changing before our very eyes. Preventable foreclosure used to mean someone that could stay in the home based on a sensible modification in loan terms such as fixing the interest rate or extending the term, such that the modified loan was calibrated to their actual income (as opposed to what was stated on the loan application). But now that it is becoming apparent that there were far more borrowers out there in over their heads, the definition of preventable foreclosure is becoming "any foreclosure that hasn't happened yet." In other words, "keeping more people in their homes," which is the other rhetoric that is popping up with greater frequency.
Referring to it as "their home" seems awfully generous considering the number of homebuyers that made no down payment, paid only the interest or even less, and borrowed from the equity every time the home went up in value. What part of that is homeownership? They were playing with other people's money from the get-go. They don't own any part of that house, and now I fear the push will be all-out to keep people in the houses in which they are living regardless of whether they can truly afford it. We, as in the taxpayers, get to subsidize that. Which is even more ironic, because none of these homeowners used their high-living lifestyles to bestow any of their largesse upon us but we now all get to chip in to make their mortgage payments for them. I certainly hope I am wrong about where this ends up.
If the government wants to do something useful, how about developing a program to facilitate refinancing for homeowners that are upside-down, but otherwise are current on their loans. Call it "Removing the Roadblocks to Refinancing." Rather than these very creditworthy consumers being unable to refinance because they owe more than the current appraised value of the home, the government could develop a loss share with any lender that refinances such a borrower into a lower, conforming fixed-rate loan. The borrower cuts their monthly payments by hundreds of dollars per month -- money that may well end up getting pumped back into the economy. The lender has a borrower that is even less inclined to default because they now have a permanently low fixed rate and a payment that is even more affordable than what they had previously. And the government gets to reward homeowners that have played by the rules but have otherwise been a victim of nothing more than the bad timing of buying a home in the past several years at a time when mortgage rates were higher. I've seen plenty of homeowners that have great credit, paying rates in the neighborhood of 6.5 percent, who would benefit greatly by refinancing at a rate in the low-5 percent range, but for lack of equity they are unable.
Of course, there would have to be rules. If you are late on your mortgage, have taken cash out either via refinancing or a home equity line of credit, or have an interest-only or pay-option ARM, you'd be ineligible. No, its not going to help everyone, but it does help responsible homeowners and limits the risk of moral hazard.
Let me know what you think.