May 24, 2022

Loan Modification Searches Go Parabolic – Making Home Affordable Guidelines

Loan Modification Enters Mainstream Vocabulary

If you had used the term “loan modification” six months ago, most people would have given you a blank stare.  With the passage of the Homeowner Affordability and Stability Plan, the term loan modification has now entered the mainstream vocabulary.  News coverage of the government plan to help homeowners with their mortgage problems via loan modification has generated  huge interest in this topic as can be seen by the increased Google searches on “loan modification”.

Loan Modification Assistance Programs

HUD’s website provides details on the modification program and also warns homeowners to beware of foreclosure rescue scams.

  • There is never a fee to get assistance or information about Making Home Affordable from your lender or a HUD-approved housing counselor.
  • Beware of any person or organization that asks you to pay a fee in exchange for housing counseling services or modification of a delinquent loan. Do not pay – walk away!
  • Beware of anyone who says they can “save” your home if you sign or transfer over the deed to your house. Do not sign over the deed to your property to any organization or individual unless you are working directly with your mortgage company to forgive your debt.
  • Never make your mortgage payments to anyone other than your mortgage company without their approval.
  • Need urgent help? Contact the Homeowner’s HOPE Hotline: (888) 995-HOPE

Making Home Affordable RefinanceGeneral Features & Eligibility

Some of the features of the new loan modification program include reducing the interest rate to as low as 2%, increasing the mortgage term to 40 years and possibly reducing the principal balance of the mortgage loan.  Note that after 5 years, the interest rate could start to increase each year.

Some of the basic guideline qualifications are:

1.  applies only to a first mortgage on a principal residence,  2. income verification is required, 3. there must be a financial hardship, 4. the mortgage must be owned by Fannie Mae or Freddie Mac, and 5.  the current mortgage payment must exceed a specified percentage of monthly income.

HUD has an easy to use program on their website that allows a homeowner to determine program eligibility –  see Do I qualify for a Making Home Affordable refinance? Answer these questions:

Home Mods Get Complicated

In theory, a loan modification is a simple concept.  The reality of loan modification is that it has become ever more complicated, involving multiple parties and numerous financial, tax and legal issues.  The government has become deeply involved with loan mods and government programs tend to become complicated, confusing and bureaucratic.

At a minimum the following questions should be asked and the answers understood by every homeowner before deciding on a particular course of action.

1. Exactly what would be the terms of my proposed loan modification?

2. Are there tax issues involved?

3. Is the benefit of owning my home outweighed by the costs?  In other words, would I be better off renting after considering my income and all the numerous costs of home ownership?

4. What is the impact on my credit score?  It will be difficult to obtain any type of future loan with a low credit score.

5. If I decide home ownership is not the best option – do I let the home be foreclosed or attempt to negotiate a short sale with the bank?  What are the pros and cons of each option?

6. If I accept a loan modification but receive no principal forgiveness, does it make sense to stay in the home if the loan balance still exceeds the value of the home?  Any sale of the home under this condition would mean bringing money to closing that may not be available.

7. Is it cheaper to rent than to remain in the home after the loan is “modified”?

8. Will housing prices increase going forward?  Keep in mind that real estate prices in Japan are still far below the peak prices reached in 1990.  There is no divine rule which mandates an increase in housing values.

9. Are there legal issues involved with the loan modification that should be reviewed by my attorney?

Not much in life is simple.  Do your homework before you finalize any decision involving your home.


Congress Proposes Cram-Downs As New Mortgage Solution

The plight of homeowners delinquent on their mortgages has been the focus of much debate lately.  There have generally been two major lines of thinking:

-The best course is to let free market principles apply.  If homeowners cannot afford the mortgage payment, the old fashioned remedy of foreclose should take place, turning an overburdened homeowner into a renter.

-Those more inclined to assess the loss of a home in terms of human suffering rather than as an economic equation have sought to provide relief to struggling homeowners by modifying the terms of the original mortgage.

As the number of mortgages in default grew, the situation attracted the attention of politicians.  Their viewpoint seemed to focus on helping the homeowner stay in the home, regardless of cost.

The governments’ efforts to encourage the banking industry to cure the foreclosure problem through voluntary participation in loan modifications was a failure.   For a variety of reasons the loan mods were not working.   Data from the Comptroller of the Currency shows that over 50% of modified loans re-defaulted within 6 months.  With many loan mods, payments went up for the borrowers and principal was hardly ever reduced.  The loan mods actually left many borrowers in a worse position than when they started.  In addition, most of them had negative equity before and after the loan mod.  The negative equity position locked them into the house, unable to sell or refinance.

Today, from Washington, a new solution – giving bankruptcy courts the power to alter the terms of the original mortgage.

Lawmakers Set New Mortgage Bankruptcy Bill

WASHINGTON (Reuters) – Legislation designed to stem foreclosures by allowing bankruptcy judges to erase some mortgage debt will be introduced by Congressional Democrats on Tuesday, and hopes are high that it will pass after a similar plan failed last year.

“Economic conditions have only worsened since we last debated this plan,” said Rep. Brad Miller, a member of the House Financial Services Committee who plans to introduce a bankruptcy reform bill on Tuesday. “Until we stop the slide in foreclosures and falling home prices, the economy will get worse still.”

The legislation would change allow bankruptcy judges to modify home loans in the same way that they currently may modify other unsettled obligations, such as credit card debt.

The lending industry has said that allowing bankruptcy judges to modify mortgage obligations would change how they weigh risk. Currently a lender knows that it has recourse to foreclosure if a borrower fails to meet mortgage payments, but the lender does not have to factor in the possibility that the payments it receives could be decreased by a judge.

What will be the impact of allowing bankruptcy judges to discharge (cram-down) mortgage debts?  Some of the issues and questions to be considered include the following.

1.  Interest rates are correlated to risk – that’s the way things work in a free market.   If a mortgage loan is made with the risk of principal impairment by bankruptcy, this risk has to be priced into the loan rate.  Reducing mortgage principal by legislative fiat may bring unintended adverse consequences.

According to The Mortgage Bankers Association “It is our position that if this proposal were to become law, mortgage rates would increase by at least one and a half points. In addition, lenders will be forced to require higher down payments and charge higher costs at closing. All these increased costs would be necessary to account for the new risks that lenders will face when judges decide to change how much borrowers owe on their mortgages.”

2.  Since total mortgage delinquencies are less than 10% and not all of these cases will wind up in bankruptcy,  cram downs might help less than 5% of mortgaged homeowners.   If the MBA is correct and mortgage rates rise significantly due to cram downs, expect a significant backlash from the other 95% of mortgaged homeowners who will wind up paying for the losses through higher interest rates.

3.  According to The Housing Wire, 50% of Americans oppose bailing out troubled homeowners. “These findings indicate that there are significant political barriers to proposals now being drafted in Congress”

The bankruptcy discharge of a mortgage balance will be viewed by many as the ultimate bailout.  The final compromised bill may result in contorted regulations that ultimately benefit few homeowners.

4.  The free market has a solution for “troubled homeowners” which is known as foreclosure.  Does the free market solution lose all merit merely because the number of foreclosures increased dramatically due to imprudent borrowing and lending?

5.  According to Rep. Brad Miller, “Until we stop the slide in foreclosures and falling home prices, the economy will get worse still.”   Rep. Miller is confusing a symptom of the disease as the cause.  Falling home prices did not cause our economy to weaken.    The housing asset bubble that burst was due to reckless lending, fueled by a government providing easy credit and obsessed with making everyone a homeowner. Political interference in economic matters usually delays a solution by impeding the free market forces that will ultimately prevail anyways.

6.  If the mortgage cram down bill is passed, it will drive many homeowners to bankruptcy, lured by the promise of wiping out mortgage debt.   The loan modification program allowed the banks to pretend that the amount they were owed would still be repaid over time.  When the loan gets reduced in bankruptcy, this illusion will be gone.  More write offs by the banks could lead to a self defeating cycle of tighter credit, stricter mortgage underwriting, weaker housing prices and further bailouts.

7.  How many homeowners that are incapable of handling the burden of home ownership will be allowed to remain in their homes, only to face foreclosure again at a later date?

8.  Continued massive government support of the mortgage market will be necessary since investor demand for mortgage securities is likely to remain low due to collapsing housing prices and the risk of mortgage debt being discharged by bankruptcy. How does an investor properly price a mortgage security where the asset value underlying the security is declining and also face the risk that the principal investment may be impaired by court decree?

9.  The Fed is now expected to absorb virtually all of the new mortgage backed securities this year.   With the Fed extending its purchases into virtually every asset class, a question comes to mind.  As the Fed assumes the losses of all failing economic entities in the country, at what point does the US Government begin to share the credit quality of those being bailed out?

Debate On Loan Modification Continues: Free Enterprise Vs Free Government

The debate seems to intensify on a daily basis regarding the merits and legitimacy of for profit loan modification companies.  Officials of HUD, Hope and the banking industry continue their criticisms of the loan modification industry by noting that they offer for free the service that many borrowers are now paying for.

Consider some recent comments from both sides debating the merits of for profit loan modification.  Daily Herald

“You don’t need to go out and hire someone to help you,” said Michael Gross, managing director of mortgage servicing for Bank of America. “It is very, at times, frustrating to find a homeowner who has paid a for-profit company $3,000 to $5,000 in an upfront fee, when they could have gotten the same or better assistance free.”

“Nonprofits are not as efficient as the regular market,” said Moose Scheib, head of Michigan-based LoanMod.com, a loan modification firm that charges homeowners $1,500 to help renegotiate their mortgages. “I think the difference is probably more attention you get from us.”

“Once a borrower pays an unscrupulous loss-mitigation consultant and time is wasted, the damage has been done,” said Sarah Bloom Raskin, Maryland’s commissioner of financial regulation. “While we may be able to recover fees, we can never recover the lost time — time that the borrower could have used to work out a bona fide loan modification.”

“We are extremely concerned about the huge proliferation of for-profit companies making a buck on these people,” said Laurie Maggiano, senior policy adviser at HUD’s Office of Housing.

Clayton Sampson, founder of U.S. Housing Assist of Nevada, which launched in July, said nonprofits provide a great service, but added, “We have a lot of clients that need us.”

Sampson said he spent five years at a mortgage brokerage and his contacts have enabled him to customize workout plans for a homeowner’s lender. His firm charges a minimum of $2,500, but he said he would return the money if he was unable to help the homeowner.

Some developments that I foresee in 2009 include the following:

As the number of mortgage delinquencies and foreclosures increase, the loan modification business will receive more scrutiny from state and federal regulators.  I would expect that many more states will introduce tough licensing and bonding requirements for any firm engaging in the loan mod business.

Companies involved in the loan mod business may be required by regulatory decree to provide full disclosure to a potential customer that loan mod services are offered for free by various agencies.

If the number of complaints about loan mod companies grows dramatically, strict federal regulations may be passed.  For example, it is possible that HUD would  require that banks and loan service providers deal only with third parties approved by HUD on any loan modification.

The loan mod companies that remain in business will have to give potential customers a compelling reason to deal with them, especially as consumers become aware of the free loan mod services available.

Is A Loan Modification Worth The Cost?

With the large number of people in arrears on their mortgages, various governmental agencies have been attempting to provide solutions.   Loan modifications have been proposed as the answer for over a year now.  The FDIC has recently been pushing this as the solution to keeping people in their homes and  spearheaded the effort to formalize and streamline the mortgage modification procedure.

From a practical standpoint of the person who is behind on their mortgage, the most important questions to ask, assuming that you want to remain a homeowners, are as follows:

  1. Do I qualify to have my mortgage modified?
  2. Will a loan modification help me in the long run?
  3. Should I pay someone to get a loan modification?

1.  As far as qualification goes,  a good place to start is by reviewing the new SMP guidelines – see Streamlined Modification Program – Who is Eligible? If a review of the guidelines leads you to believe that you qualify for a loan modification, a good way to start is by calling your loan servicer directly, whose phone number is on your monthly statement.

Be advised, however, that nothing is simple when it comes to a loan modification.  The process is controlled by different parties with different interests.   If your mortgage is not owned by Fannie Mae or Freddie Mac, the SMP guidelines that they issued may not apply to you.  A large percentage of mortgages originated over the last five years were sold on a worldwide basis to many different investors.  Generally speaking, the loan servicer that you are dealing with is operating under the guidelines of the investors who own your mortgage.  Some of these investors are willing to do a loan mod and some are not.  The terms of a loan mod that each investor allows will differ depending on their guidelines.

2. Whether or not a loan modification will help in the long run is a complex topic and will be the subject of another post.  Each loan situation is unique but if we examine the data from the Comptroller of the Currency, Office of Thrift Supervision, the results of a loan mod after 6 months showed re-default rates of 50 to 60%.

Three Months After Modification (30+ Days Delinquent)

Six Months After Modification (30+ Days Delinquent)

On-book portfolio (loans held by servicers)

35.06%

50.86%

FHLMC (Freddie Mac)

39.09%

57.87%

FNMA (Fannie Mae)

38.34%

57.11%

Private Investors

42.28%

60.76%

3.  Assuming that questions number 1. and 2. were answered with a “yes”,  a potential loan mod applicant should assess whether or not it makes sense to pay someone to do the loan modification for him.  The loan mod business seems to growing larger every day with a large number of companies offering to provide  loan mod services.   Some factors to consider when deciding whether or not to engage a loan mod company to help you include the following.

-How difficult will it be to get my mortgage modified?  The best way to get a preliminary assessment of this is to call your loan servicer, whose number is on your mortgage statement.  Depending on your situation and who owns your loan, it may be relatively simple to provide the servicer with the documents that they are requesting.  Many servicers and investors consider getting your loan current again to be in their best interests so they should be willing to help you out.

-If for whatever reason you do not want to deal with the loan servicer directly a call to a non profit organization such as Hope Now cannot hurt.  I have heard some people say that they have helped, some say that they are a waste of time; either way, a free phone call is an easy way to find out.

-Keep in mind that if you do engage the services of a loan mod company, they do not have any special powers of persuasion over the the investor owning your mortgage.   The loan servicer is going to make the same modified payment offer regardless of who they deal with.

-The price of a loan mod varies depending on what company you engage to help you.  I have seen prices ranging from $700 to $3500.  The amount of fees charged upfront also varies as do the service guarantees.  Some companies want the entire fee upfront and sometimes the entire fee is nonrefundable.

-If a loan mod company has expertise in the mortgage modification business they should be able to give you an accurate idea of what they can accomplish for you.  For example, there are some servicers (due to restrictions by the investor) who essentially refuse to modify a mortgage.  Regardless of who owns your mortgage, the loan mod company should be able to tell you give you a good idea of how your mortgage will be modified and what your new monthly payment will be.

-A principal reduction is done by very few servicers so if the company you are speaking to guarantees that they can do this for you,  be very skeptical.

-Do not work with any loan mod company without first checking their references.  There are few state or federal licensing requirements or proof of expertise required to enter this business so it is “buyer beware”.     Do not pay more than a modest nonrefundable application fee ($300 to $400 is common).  I would also not recommend engaging a loan mod company whose fee is nonrefundable.   You are paying for their expertise and they should know if they can help you before they take your money

-If your mortgage is delinquent by 90 days, which is usually required before a loan can be modified, do you really have up to $3,500 to spend getting your loan modified, when the odds of re-defaulting are up to 60%?

Conclusion:

There are reputable loan mod companies willing and able to get your loan modified for you and save you the time and hassle of paperwork and phone calls.   Considering the cost that most loan mod companies charge, your best bet is to directly contact your loan servicer or a nonprofit help agency first.

Streamlined Modification Program – Who Is Eligible?

On December 18, 2008 the Federal Housing Finance Agency, Fannie Mae, Freddie Mac and Hope announced their Streamline Modification Program (SMP) to assist troubled homeowners.  By implementing common standards and procedures for loan servicers to follow it is expected that the process will expedite the process of modifying a mortgage loan for a troubled homeowner.

Am I eligible for assistance under the new Streamlined Modification Program (SMP)?

If the answer to all of the following questions are YES, you may qualify for assistance under the new Streamlined Modification Program (SMP).

  1. Is your mortgage principal equal to or greater than 90% of your home’s market value?
  2. Is your home a single family residence or condo?
  3. Is the single family residence or condo your primary residence?
  4. Is your mortgage past due by 3 months or more?
  5. Is there a financial hardship that caused you to become late with your mortgage?
  6. Did you take out your mortgage before January 1, 2008?
  7. Can you verify your income?
  8. Is your current monthly mortgage payment (including taxes and insurance) greater than 38% of your gross monthly income?

If you answered yes to all of the above questions you probably qualify for assistance.  Even if you think you may not be qualified, you should still call your loan service provider, who will try to arrange an affordable monthly mortgage payment.  The Federal Housing Finance Agency states that “The key to success is the borrower’s ongoing cooperation and communication with the (loan) servicer”.

Other Considerations

The loan servicer’s phone number is usually listed on your mortgage statement.   In addition, the participating loan servicers in the SMP will attempt to contact delinquent borrowers by phone and mail.

A homeowner’s mortgage may be in foreclosure but the borrower may not be in an active bankruptcy.  A mortgage that was modified previously is eligible.   The new SMP covers mortgages owned by Fannie Mae and Freddie Mac.  Mortgages with the FHA, VA and RHS are not eligible under this program.

The loan service provider is authorized to lower your interest rate to as low as 3%.   A struggling homeowner has nothing to lose by directly contacting their service provider to determine eligibility.

Details Of Streamlined Mortgage Modification Released

The Federal Housing Finance Agency (FHFA), Fannie Mae and Freddie Mac announced the details for streamlining the mortgage modification process for homeowners in default.  The new guidelines are an effort to standardize the eligibility requirements, thereby allowing the modification process to be completed more quickly.   Currently, the loan modification procedure is bogged down due to understaffed loss mitigation departments and varying rules which have turned the process into a two to four month ordeal for a homeowner already under financial stress.

Fannie Mae President Herb Allison stated that the new guidelines had been established by working with the Federal Housing Finance Agency (FHFA) and numerous lenders and service providers.  Mr Allison also noted that “These efforts are helping more than 10,000 delinquent borrowers every month get back on track”.

FHFA director Jim Lockhart noted that “I am pleased that our program is being rolled out right on schedule and that servicers are already working at modifying delinquent loans with the goal of keeping people in their homes”.

Loan Service Providers who administer the actual mortgage processing will attempt to notify eligible borrowers by mail of the details of the new Streamlined Modification Program (SMP).

The eligibility requirements for the SMP are as follows:

  • the borrower must own and occupy the home
  • the borrower is not eligible if he is presently in bankruptcy
  • the borrower must be delinquent at least three months
  • the borrower must have a loan to value of over 90%
  • the borrower’s income must be verified

The mortgage loan will be modified so that the borrower’s total monthly payment including escrows does not exceed 38% of his gross income.  To bring the ratio to 38% or lower, the term of the loan may be extended to 40 years and/or  part of the principal will be allowed an interest forbearance.   The interest rate on the modified loan may not be lower than 3%.  Any second mortgage on the property will be left outstanding.

There has been much controversy over whether or not the loan modification programs will ultimately work out well for the borrower since the loan principal is not being reduced.  As noted above, the servicer can make the borrower’s payment smaller by making a part of the principal interest free for a period of time (principal forbearance).   The homeowner, however, will in many cases still owe more on his home than it is worth and the reduced mortgage payment usually only lasts for 5 years.  It is therefore interesting to note that the new streamlined modification program does not allow for any type of principal forgiveness.

The loan modification process has generated a lot of controversy and criticism lately since the redefault rate was approximately 50% after 3 to 6 months.   Each party involved in the process has different interests to protect and were promoting different eligibility standards.   It will be very interesting to see if this new streamlined and standardized loan modification program will result in a smaller redefault rate going forward.

HUD Loan Modification Program Called A Failure

None other than the Secretary of Housing and Urban Development has declared the HUD loan modification program, known as Hope for Homeowners, to be a failure.   Steve Preston, HUD Secretary , blamed Congress for the program’s failure.  “What people don’t understand is that this program was designed to the detail by Congress”.

The Hope program,originally expected to help almost half a million people, has had only around 300 applications since its launch.   The chairman of the House Financial Services Committee blamed the Bush administration for opposing features of the bill that would have made it acceptable to lenders and easy to use by homeowners in default on their mortgages.   There have been calls by others on Capital Hill to use a portion of the TARP funds to ease and expand the Hope program.

In theory, the Hope program would have been beneficial to both borrower and lender by turning a defaulted loan into a performing loan.  It was structured to refinance a homeowner into a 30 year fixed rate mortgage insured by the FHA.

In reality, features of the Hope program seemed to have been designed to make it unattractive to both borrower and lender.  Specific provisions that created problems and made the program basically unworkable for all parties were as follows:

  • there was no obligation on the part of lenders to participate
  • the FHA would only insure  a new loan for up to 90% of the homes value.  Cash strapped borrowers had no way of coming up with the cash for the shortfall on what was owed.  For example, a homeowner owing $150k on a house now appraised at $100k could get a new low rate mortgage of $90,000 but only if he could come up with the $60k balance due on the original loan.   Someone with $60,000 available would probably not be in default on the mortgage.   The only other option to bringing $60,000 cash to closing was to request that the lender write down the loan balance to $90,000, which most lenders politely declined to do.
  • in order to qualify for the Hope loan, borrowers had to sign a statement testifying to the fact that all of the information they provided on their original loan application was accurate.  With the large number of stated income loans done in the past, many borrowers could not sign such a statement.
  • fees were to be assessed on any homeowner refinancing under the Hope program, monies that many homeowners did not have.
  • there were also limitations on the allowable debt to income ratio on the new loan in order to qualify.  Many would not have qualified even under the reduced loan amount and lower payment.
  • since the government was sharing with the original lender a portion of the losses on the refinance and loan write down, a portion of any future price appreciation upon sale by the homeowner would be due to the government

The amount of the new loan allowed under the Hope program and insured by the FHA has now been raised to 96.5% in an effort to make a refinance more appealing to the original mortgage lender.

Additional change to the Hope program are expected after the new administration takes over in January.

Loan Modification Efforts Continue

Despite the recent news that many of the mortgage loans modified have gone back into default, the loan modification effort continues.  Until a better solution is found loan modification efforts will continue, especially given the full backing by the FDIC and other government leaders.  It is likely, however, that the approach and methods will change to ensure that future loan mod efforts are more successful.

Bank United Announces New Loan Mod Efforts

Bank United announced today that it will intensify its efforts to save troubled homeowners  by outsourcing much of the work involved in a loan modification.   To anyone familiar with the delays and inconsistent procedures being employed by many banks in their loan mod efforts, this new approach is a welcomed fresh approach.  Many loss mitigation departments are overwhelmed with work, causing many months of delays before the homeowner receives any type of loan mod offer.   In many cases, the rules as to which loan is modified and under what terms also seems to be inconsistently applied.

Many of the $1 billion in delinquent loans at Bank United apparently are due to the large number of pay option arm loans that were originated.   Given the large drop in property values and the negative amortization features of the pay option arms, many borrowers in this category  have a large negative equity position.   The most probable course of action that Bank United will take for this category of borrower is to reduce the principal balance.   Without principal reduction, the borrower would still be in a negative equity position which frequently leads to default.  Unless the homeowner is wildly bullish about housing prices, very few people will continue to make payments on a $400,000 mortgage when the house is valued at $200,000.

With Bank United stock selling at 33 cents and almost 10% of their loans in default, they would apparently have little to lose by offering to put their borrowers in a stronger position through principal reduction.  As previously discussed, long term housing stability is based on strong borrowers.

Ocwen Shows High Success Rate With Loan Mods

Ocwen Financial reported that results with their loan modification efforts far exceed the industry results.   Ocwen is experiencing less than a 25% delinquency rate 60 days after the loan mod, compared to the industry average of over 50%.

CEO William Erbey stated that “The salient issue is not the efficacy of loan modification as a loss mitigation tool, but whether mods are being properly designed.   Our loan approach achieves the twin objectives of keeping homeowners in their homes and maximizing the net present value of the mortgages to the investors who own the loans.”

Mr Erbey further stated that “the re-default problem lies with how some servicers are doing modifications, not with concept of modification. It’s possible to do modifications right. It’s challenging, but we’re doing it — and doing it in a way that’s scalable.”

Ocwen’s good results seem to reflect it’s use of high technology applied on an individual basis.  Rather than having a loan mod decision made by an individual, the characteristics of the loan and the borrower are assessed using artificial intelligence technology.

To date, Ocwen appears to be an industry example of the right way to do loan modifications.  This year alone, Ocwen has kept over 60,000 borrowers in their homes with the mortgages now being paid on time.

Loan Modification – Someone Forgot To Ask The Investors

Purchasers of mortgage debt, formerly known as investors but now known as bag holders were distressed that Bank of America (BAC) did not consult with them prior to deciding to modify customer mortgages, as reported by the Wall Street Journal.   The problem was not with the mortgages actually owned by BAC, but rather the mortgages owned by others and merely serviced by BAC.  Apparently so enamored with the idea of saving the banking industry by reducing the rate and loan balances of the lucky mortgagees, BAC decided to apply their therapy to mortgages that they merely service but do not own.

The problem with attempting to modify mortgage loans en masse is that many mortgages originated over the past 5 years were sold to investors as mortgaged backed securities.  BAC maintains that they can modify these investor owned mortgages based on “delegated authority” per the loan servicing contract they have with the investors.   Obviously some of the investors in the serviced mortgages don’t see it that way and are looking to BAC to make them whole on any write downs given to the borrowers at their expense.   These are the types of issues confronting the industry in their attempts to modify mortgages.

Mortgage modifications are seen as a win/win situation by the FDIC, many banks and some of the mortgaged backed securities investors since it appears to offer the ideal solution – homeowners get to keep their homes, foreclosures decrease and the ultimate loss on the loan modification theoretically is less than   foreclosing on the property.  This may all be work out to every one’s advantage unless property values continue their decline which I consider to be a likely scenario.   Home prices won’t stop dropping regardless of government efforts until the economy stabilizes and until the ratio of family income to cost of ownership reaches an affordable level.

The issue with loan modifications that I and others see is one of moral hazard; this program is institutionalizing the repudiation of debt on a national scale and the cost and negative consequences of this rationale are open ended.  In an excellent article by Peter Schiff, he describes loan modifications as “the mother of all moral hazards” as follows:

“No doubt prodded by the administration, Fannie Mae and Freddie Mac announced a new attempt to stop the fall in home prices and foreclosures through a loan modification program that would cap mortgage payments so that a homeowner’s total housing expenses would not exceed 38% of household income for home owners who are 90 days delinquent.

In a classic case of unintended consequences, the plan will encourage a massive new round of delinquencies and household income reduction as homeowners will jump through hoops to qualify for the program and maximize their benefit. Those who could conceivably economize to meet their existing obligations will now have a strong reason to forgo such sacrifices. Those who are not 90 days past due will intentionally become so. In many cases, dual income families may decide to eliminate one job altogether as reduced mortgage payments combined with lower child care and other work related expenses will likely exceed the after-tax value of the lost paycheck.

Unfortunately, the last thing our economy needs is falling household incomes and even more bad debt. But that is precisely what this plan will give us.”

Transferring all the losses of homeowners, automakers, banks, insurance companies, credit card companies, mortgage companies etc etc onto the balance sheet of the US Government does not correct the incredible excess of leverage that has been ongoing in this country since the early 1980’s; it merely transfers the losses to the US taxpayers and shortens the day that the US Government itself will need to be bailed out.