Jared Lanning, struggling to pay a home loan on which he owed more than his house was worth, was thinking he might just let the lender take back the property. Then he got a call one evening from an Orange County investor who had bought his mortgage.
"I want out of your loan," said the investor, Evan Gentry, chief executive of G8 Capital of Ladera Ranch, who offered to lower the balance and the interest rate.
Lanning, a crane operator in Englewood, Colo., was skeptical. A phone pitch, after all, had led to his getting the unaffordable loan in the first place. But Gentry was legit: He helped Lanning get a new Federal Housing Administration-insured mortgage -- with a $12,000 lower balance. Gentry also paid $5,000 in closing costs for the new loan. Lanning's new monthly payment is $200 less than before.
Investors -- including big fish like former Countrywide Financial Corp. President Stanford Kurland as well as smaller fry like Gentry -- are buying loans on the cheap from lenders who want them off their books. By paying less than face value for the mortgages, the new holders can modify loan terms, including shrinking the amount owed, and still make money.
With some economists projecting 2 million foreclosures this year, legislators and regulators are hoping to encourage wide use of this model. They want lenders and investors in mortgage bonds to mark down what borrowers owe and then provide them with lower-cost loans. It's a tricky business: No one wants to be seen as bailing out speculative buyers or imprudent lenders, but they also don't want mass foreclosures to devastate neighborhoods and the economy.
The Federal Deposit Insurance Corp. described the problem Wednesday as "a self-reinforcing cycle of default, foreclosure, home price declines and mortgage credit contraction, the likes of which we have not experienced since the 1930s." The agency is proposing that the government lend $50 billion to 1 million borrowers to help them replace unaffordable loans.
Sub-prime mortgages with interest rates ratcheting higher have proved less of a problem than once feared, because interest rates overall have dropped. But a "toxic combination" of falling home prices and borrowers who can't afford even the initial low rates on adjustable loans is now the issue, FDIC Chairwoman Sheila C. Bair said in an interview this week.
"Many more borrowers are under water," she said. "And many more are just walking away."
Many people bought homes with nothing-down loans at the peak of the housing boom -- 29% of all buyers in 2007 made no down payments, Treasury Secretary Henry S. Paulson Jr. said recently. Others have sucked all their equity out of their properties with refinancings.
According to Moody's Economy.com, some 8.8 million Americans -- more than 10% of all homeowners -- owe more than their houses are worth, although a Mortgage Bankers Assn. economist contended the figure was lower, perhaps 8%. In any case, there is wide agreement that many of those troubled borrowers have proved surprisingly ready to abandon their properties, even when lenders offer to modify their loan terms as they were encouraged to do by the Bush administration.
"We are working with borrowers to keep them in their homes, but a lot of them really don't want to stay," said Babette Heimbuch, chairwoman of FirstFed Financial Corp. of Los Angeles, a savings and loan operator that specialized in adjustable-rate mortgages, including many that were made without full documentation of borrowers' incomes.
FirstFed has about $6.3 billion in loans on its books. It said that $667 million of that balance, more than 10%, was delinquent or in foreclosure as of March 31, up from just $46 million a year earlier. FirstFed said Wednesday that it lost $69.8 million, or $5.11 a share, during the first quarter this year compared with a profit of $8.4 million, or 61 cents, a year earlier. It set aside $150.3 million for loan losses during the quarter, up from $3.8 million during the first quarter of 2007.
Because FirstFed kept most of its loans on its books rather than selling them, it should have been easier for the company to work with borrowers to modify the loans. Heimbuch said FirstFed forecloses only after analyzing 10 other options to offer the borrower, including lowering the interest rate; changing to a five-year, fixed-rate loan requiring payment of interest only; and writing down the loan balance.
Still, she said, up to 50% of borrowers who miss payments don't respond to letters and repeated telephone calls to see if something can be worked out.
Some customers had acquired second mortgages and couldn't make new arrangements with the other lender, she said. "I think some know they told us the wrong income and are afraid to come clean, though we would still work with them . . . to keep them in their homes if possible."
For struggling borrowers, it's a big mistake not to return such calls these days, said Gus A. Altazurra, a veteran mortgage executive who recently raised $10 million from private investors to buy and modify loans for which homeowners are still making payments.
"They're probably going to help you, given the current situation," said Altazurra, whose Irvine-based Vertical Fund Group has been negotiating with lenders of all sizes to buy loans. He said "a flood" of mortgages went up for sale in April after lenders closed their books on a horrendous first quarter.
Altazurra, who has paid as little as 31 cents on the dollar for some loans, said the terms of some mortgages made at the peak of the boom were hard to believe. One loan he bought from a Texas bank was to a borrower with a very low credit score -- 484 -- who refinanced and cashed out 100% of the equity in the property, he said.
Gentry, the other Orange County loan buyer, said he had obtained commitments from investors to provide $100 million in capital for workouts on loans that have stopped paying, current loans that can no longer be sold and foreclosed properties. He has bought nearly $50 million in mortgages and property so far.
Gentry purchased Lanning's loan in a pool of mortgages from a San Diego lender that was going out of business. He said that on average his private venture was paying 70 cents to 80 cents on the dollar for loans like Lanning's that were still current, and "less if the loans are nonperforming."
Lanning had no home equity left -- and thus had little incentive to keep sacrificing to make payments -- before he got the smaller, cheaper FHA loan. Now his outlook has changed.
"We can't do anything frivolous now," he said. "But if we do it right, we have enough. That other loan was just pushing us over the top."