Agency’s plan to lower defaults
Companies that collect mortgage payments could earn $500 for every loan they modify to avoid default under a plan developed by the federal regulator of the nation’s savings and loans.
As millions of adjustable-rate home loans approach reset dates on which monthly mortgage payments will soar, Office of Thrift Supervision Director John M. Reich says his agency’s plan could help lower the default rate for homeowners who are in good standing but face financial problems after their loans reset.
The proposal would be funded from surpluses in mortgage-backed securities. If adopted, it could help offset a worsening credit crisis as regulators and lenders confronted the fallout of lax lending practices prevalent during this decade’s housing boom.
Nearly 2.3 million sub-prime mortgages made to borrowers with weak credit are projected to reset at higher rates through the end of next year. There are fears many of those loans risk default, aggravating the nation’s soaring foreclosure rate, which nearly doubled in the third quarter.
Firms that service mortgages would make loan-by-loan judgments about whether homeowners qualify for a three-year extension of low initial “teaser” mortgage rates.
Funding for the voluntary plan would come from existing surpluses in bundles of mortgages that are sold to institutional investors, Reich said.
Kurt Eggert, a law professor at Chapman University, said compensating loan servicers for modifications to loans was crucial to the plan’s success.
Modification “costs them money,” Eggert said. “They’re just not going to do it unless they get paid.”
He added that the upside was that an effective loan modification helps limit the losses of bundled loans that have been securitized. Every loan in a mortgage-backed security that forecloses cuts the security’s value by around $50,000, he said.
Still, it would be tricky to decide which homeowners were legitimate candidates for loan modifications, said Joseph Mason, a Drexel University finance professor.
The agency’s proposal is more limited in scope than one from Sheila Bair, chair of the Federal Deposit Insurance Corp. She argues that mortgage-servicing companies should agree to widespread conversions of adjustable-rate loans to fixed-rate loans for homeowners who are current on mortgage payments but on the verge of resets to sharply higher rates.
Critics say Bair’s idea won’t work because mortgage servicing companies have a legal responsibility to modify loans only if they’re confident the changes would be helpful to the homeowner and the owner of the loan. Companies can be held liable if they permit modifications that are not in the best interest of investors.
