The prospect of mortgage debt forgiveness will entice hundreds of thousands of homeowners into picking up the phone to play the home-preservation game of “Let’s Make a Deal,” beginning this fall.
The federal government’s Hope for Homeowners plan started Oct. 1, and a “proactive home retention program” for some Countrywide customers will begin by December. Both initiatives promise to help qualified homeowners avoid foreclosure by giving them lower monthly house payments.
Under the mortgage relief programs, some people will get reduced interest rates, either temporarily or permanently. Others will have a portion of their home debt wiped away. Some will get a combination of reduced rate and loan forgiveness. Still others will wind up disappointed.
But at least these initiatives will spur troubled borrowers into calling their mortgage servicers or credit counselors. In about half of foreclosures, the borrower doesn’t talk to the lender.
- The house has to be the borrower’s primary residence. It can’t be a second home or investment property.
- The mortgage must have been originated before Jan. 2, 2008. The borrower must have made at least six payments.
- Payments are unaffordable without help.
- House payments are more than 31 percent of before-tax income.
- The borrower didn’t lie on the loan application, hasn’t intentionally defaulted on debts and hasn’t been convicted of fraud in the last 10 years.
The Hope for Homeowners plan is supposed to help up to 400,000 homeowners who can’t afford their mortgage payments and who can’t refinance to get a lower rate because they owe more than their houses are worth. Without help, these people will end up in foreclosure. Hope for Homeowners encourages lenders to forgive some of the debt of these troubled homeowners so they can refinance into mortgages insured by the Federal Housing Administration, or FHA.
Debt forgiveness last option
The last thing that lenders want to do is forgive debt. Last month, executives from the four biggest mortgage servicers testified before the House Financial Services Committee, and all of them made it clear that they would exhaust all loan-workout options before considering debt forgiveness, which in banker lingo is called “principal reduction.”
An executive for Bank of America told the committee that his bank would consider debt forgiveness for people who already are in the process of foreclosure. A Wells Fargo executive, Mary Coffin, said, “We have found that the same affordability can be reached through a 2 (percent) to 3 percent interest rate reduction and term extension, as can be reached through a 25 (percent) to 30 percent principal reduction.”
In other words, Wells would rather reduce the interest rate for five years, and extend a 30-year loan into a 40-year loan, rather than forgive some of the debt.
How forgiveness would work
If a lender can be persuaded to participate in Hope for Homeowners, here’s how it would work: The lender would forgive all the debt over 90 percent of the home’s currently appraised value, and allow the homeowner to refinance with an FHA-insured mortgage.
For example, let’s say someone owes $125,000 on a house that has lost value and is now worth $100,000. The owner can’t afford the higher payments because of a rate adjustment. The lender would forgive $35,000 of the debt, allowing the owner to refinance with another lender for $90,000. That loan would be insured by the FHA, and would have an upfront FHA insurance premium of about $2,700. In most cases, that $2,700 would come out of the hide of the old lender, on top of the $35,000 in debt forgiveness. Faced with these figures, some lenders might figure that it might be cheaper to foreclose.
Borrowers who take advantage of Hope for Homeowners will have to share their house price appreciation with the government when they refinance the loan or sell the house. Depending on how long they have the loan, they will have to give the government as little as half and as much as all of the gain in the home’s value. For example, if the house is appraised for $100,000 when the house is refinanced in 2008, and then the house is sold for $120,000 in 2014, the owner will have to give the government $10,000 — half of the appreciation.
Second liens and home equity
The biggest stumbling block with Hope for Homeowners is what happens to second liens: home equity loans and lines of credit. In most cases, these lenders — known as second lienholders — would get nothing. They would lose the entire amount of the loan. And second lienholders have veto power over refinances under Hope for Homeowners. They have little incentive to agree to refinancings.
In July and August, the Consumer Credit Counseling Service of Greater Atlanta fielded hundreds of calls from homeowners seeking foreclosure prevention advice. In September, CCCS contacted them to find out how many would meet the eligibility requirements for Hope for Homeowners. A little over two-thirds of the 591 respondents indicated that they would be eligible.
What to do next
Troubled borrowers are encouraged to contact either their lenders or counseling agencies. Most borrowers are better off calling counseling agencies first. Counselors can answer basic questions and get borrowers ready to negotiate with the mortgage servicers who can approve workouts.
“It’s important to remember that servicers have an extraordinary demand on their personnel,” says Suzanne Boas, president of CCCS of Greater Atlanta. “So to the extent that a resource like a credit counseling agency can help answer basic questions, and get people prepared, I think that’s very helpful. We have access to dedicated lines and e-mail addresses within the servicing shops where generally we can get a little faster turnaround than the individual consumer calling in.”
- The date when the loan was originated.
- Know whether there’s a home equity loan or line of credit, and the outstanding balance.
- At least one paycheck stub for each earner in the household, to determine gross income.
- A bank statement and copies of all the monthly bills, to determine expenses. This includes credit card, auto and student loan debts, utilities, groceries, and things that are usually paid for in cash, such as lunches.
- The most recent tax return.
New plan for Countrywide borrowers
Hope for Homeowners isn’t the only foreclosure prevention game in town. This year, several state attorneys general sued Countrywide, accusing the mortgage giant of marketing adjustable-rate loans deceptively. Bank of America bought Countrywide and settled the lawsuits by promising to modify as many as 400,000 customers’ mortgages.
Under the legal settlement, Bank of America will modify the mortgages of borrowers who got subprime loans or payment option ARMs. Some will be ushered into the Hope for Homeowners program and others will get automatic interest rate reductions. Some pay-option borrowers will receive debt forgiveness.
Bank of America is still putting that program together, and will begin reaching out to eligible borrowers in December. Until then, Bank of America won’t follow through with foreclosure sales on potentially eligible loans.