The unfairness of government-backed mortgage modifications
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The L.A. Times today leads the newspaper with a look at Countrywide’s plan to modify up to 395,000 mortgages -- 125,000 in California -- to make the mortgages affordable to buyers who are living in houses they otherwise can’t afford. In some cases, those modifications will result in borrowers paying just 2.5% interest on their mortgages.
The Federal government took action last summer to encourage mortgage modifications by putting government guarantees behind the new mortgages, but for whatever reason that program doesn’t appear to be attractive enough to banks. Pimco’s Paul McCulley accurately described the basic unfairness of that effort months ago:
It runs against the streak of basic fairness in a lot of Americans. You’re going to provide a handout to the fool. The fool is going to be rewarded and I, the taxpayer, will be put at risk at the margin for that handout to the fool. When all I did was exactly what I was supposed to do. Where is the fairness here? It’s a hard question to answer.
I’ve long believed mortgage modifications should be between the lender and the borrower. The lender should be free to do whatever it wants to maximize the value of the loan. If that means foreclosure, foreclose. If that means a generous workout that is ultimately better for the bank than foreclosure, then work it out. On the surface, Bank of America says that is what’s happening here: it will modify loans if modifciation makes sense for the bank:
Not every borrower will qualify. One reason, said Bank of America executive Steve Bailey, is that the loan owner’s expected earnings on a modified loan must exceed what it would expect to recover in foreclosure.
The Federal government, through the FDIC, has announced an aggressive effort to modify loans serviced by IndyMac, the failed bank. But as the indispensable Tanta reported yesterday at Calculated Risk, that ambitious program is off to a slow start. Tanta reports the FDIC originally said it thought it could save up to 40,000 out of 60,000 troubled IndyMac mortgages, but to date has only reached out to 15,000 borrowers, and has modified only 3,500 mortgages.
-- Peter Viles
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