mortgage

Does it pay to play by the rules?

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Highlights
  • Some worry bailouts reward bad behavior and increase "moral hazard."
  • Defaulting homeowners could get thousands in a "handout," critic says.
  • Good behavior is a moral choice offering its own reward, some say.

Everywhere you look these days, someone is being rewarded for bad behavior.

Wall Street bankers, hedge fund managers, mortgage lenders, even homeowners who knowingly bought homes they couldn't afford -- all have abandoned the moral high ground and are now getting down to bailout town, where the fat cats dine.

With bailouts seemingly blowing in the wind, it's hard not to feel like a chump for being fiscally responsible.

Does it still pay to play by the rules?

Peter Schiff, president and chief global strategist of Connecticut-based brokerage firm Euro Pacific Capital, believes government policies are undermining people who behave well while rewarding those who are irresponsible.

The government is sending out the wrong message by letting everyone involved in this financial folly -- lenders and borrowers alike -- escape the consequences of their actions, says Schiff.

"People say, 'Oh, this isn't fair that people have to suffer,'" he says. "Well, yes it is; they made their bed, now they have to lie in it."

No price to pay
Schiff is author of the 2007 book "Crash Proof: How to Profit From the Coming Economic Collapse." He was among a handful of pundits and economists who correctly forecast the current financial meltdown.

To illustrate his argument for how the government rewards bad behavior, Schiff cites the example of the Streamlined Modification Program. The SMP is a recently implemented joint effort on the part of the private sector and the federal government to bring mortgage payments for some delinquent homeowners to below 38 percent of monthly household income.

“What the government is saying with the bailout is, 'be irresponsible, be reckless, and you'll get rewarded.'”

Under the SMP, struggling homeowners who are 90 days or more late on their mortgage payments -- and whose loans are owned by Freddie Mac, Fannie Mae or participating lenders and servicers -- are eligible to have their loan restructured to reduce their monthly mortgage payments. Restructuring could include both lowering a homeowner's mortgage rate and increasing the length of the loan term to up to 40 years.

"If by not paying your mortgage for three months you could qualify for a mortgage modification that would lower your mortgage payment for the next 30 or 40 years, wouldn't you at least be tempted?" Schiff asks.

Life's rules say that if you earn and save, one day you'll be able to buy a house. But Schiff notes that under the SMP's goal of reducing mortgage payments below 38 percent of gross income, the less you earn, the lower your mortgage payment will go.

"What does that say?" he asks. "It says that if I'm earning $100,000 a year right now and can cut my income to $50,000 a year, my mortgage payment is going to be half as much. Over a 30- or 40-year mortgage, that could be a $500,000 to a $1 million handout."

It is important to note that as part of SMP, homeowners whose mortgage rates are cut especially sharply early in the program could see their rates increased somewhat after a set period of time.

Proponents of the SMP also argue it has provisions to discourage opportunists. Homeowners must provide proof of having suffered a hardship, such as a job loss. Those who participate in the program also must sign a form stating that they didn't deliberately default on their mortgage simply to qualify for the benefit.

"But you're talking about people who already lied on their mortgages in the first place by exaggerating their income," Schiff says. "So why wouldn't they lie here?"

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Usually, a failure to pay your mortgage lowers your credit score. But with a loan modification, Schiff says, "you'll probably have a higher credit score because now your debt-to-income ratio when you start repaying is going to be a lot better.

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