Opinion: What California got for holding out for a better foreclosure deal

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By temporarily holding out from the settlement talks between five major banks and other state attorneys general, California Atty. Gen. Kamala Harris says she was able to obtain a significantly better deal for the state’s homeowners and borrowers. In particular, she pointed to an agreement by the five banks -- Wells Fargo & Co., Bank of America, Citigroup, JPMorgan Chase & Co. and Ally Financial -- to guarantee at least $12 billion in relief to state borrowers over the coming three years, and to make that commitment enforceable in state court. And instead of waiving all claims related to loan origination, Harris said, the state’s unique agreement with the banks preserves its ability to sue them for discriminatory and fraudulent lending practices.

Give Harris credit for all those things because they’re helpful to Californians. But the more important part of the deal is that it gets the ball rolling on a new, more effective type of mortgage modification that could help far more borrowers than the billions that have been guaranteed.

The proposed national settlement grew out of a joint investigation by all 50 state attorneys general into ‘robo-signing,’ the banks’ practice of giving judges in foreclosure cases documents that had been signed without anyone reviewing them. Robo-signing was mainly an issue in states that required lenders to go to court to foreclose on a home, and California does not. But the investigation uncovered many other abuses in the way the banks serviced the loans -- for example, the ‘dual tracking’ that led one arm of a bank to foreclose on a house while another arm was negotiating a loan modification with the homeowner.

The national settlement, which still must be approved by a federal judge, calls for the five banks to provide more than $20 billion worth of relief to borrowers, including refinancing of underwater homes, loan modifications that write off some of the borrower’s debt and support for ‘short sales’ that enable borrowers to sell homes that are worth less than the balance of their mortgage. It also requires that $5 billion in penalties be paid mainly to state agencies and to borrowers who’ve already been foreclosed on.


About 1 million financially troubled homeowners across the country would be helped through mortgage modifications, short sales and other forms of relief. But about 6 million U.S. homeowners are in some stage of default, and about 2 million enter the foreclosure process every month. Millions of additional homeowners owe more than their homes are worth, putting them at risk of defaulting if they run into financial trouble. So as large as the settlement is, the problem is considerably larger.

That’s why it’s critical for banks to step up efforts to identify and help troubled borrowers whom they could rescue with a modified loan and lose less money than they would on a foreclosure. The settlement pushes them to do so, which is what makes it so important. First, it would require banks to meet new standards for how they respond to borrowers who fall behind on their payments, ensuring that every borrower is considered for a modification before foreclosure proceedings are started. And second, it would provide a template for modifications that write off a portion of a borrower’s debt -- a technique that’s proved to be more effective (because fewer borrowers re-default) and less costly than foreclosing, yet one that banks have eschewed because of the short-term cost and the potential for encouraging more defaults. Once the industry sees how well the modifications work, more lenders will adopt them, housing advocates hope. The relief would then spread far beyond the million borrowers covered by the settlement.

Harris’ agreement with the banks gives them more incentive (or rather, less disincentive) to write down mortgages in communities with the highest foreclosure rates and greatest losses in property value. According to Brian Nelson, a special assistant attorney general, it also allows her office to sue any of the five banks if she finds evidence of discrimination in their lending -- for example, if they sold ethnic minorities costlier mortgages than they offered other borrowers. In addition, Nelson said, the agreement lets Harris sue the banks if she finds evidence that they defrauded borrowers, such as by willfully misrepresenting the terms of a loan. The latter claims only apply to loans made since July 2009, and banks would be liable only for the actual harm suffered by the borrowers.

Again, those are potentially helpful. We won’t know how helpful, though, unless and until Harris’ office actually brings cases. Besides, with the clock running on the state’s four-year statute of limitations, and with the most predatory forms of subprime and exotic loans coming from lenders other than these five banks, it seems unlikely that Harris will be able to haul in many fish with these nets.


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-- Jon Healey