Wednesday, October 13, 2010

Whose Fault is the Foreclosure Mess Anyway?

After a week of spreading moratoriums on foreclosures throughout the country, and calls by Nancy Pelosi and Barney Frank to have a federal moratorium on foreclosures, we see common sense and reality beginning to weigh in on this issue.  According to the Washington Post,  federal regulators today urged lenders to get to work reviewing paperwork on foreclosures, to file new documents if the documents that are part of their current files are found to be in error, and to continue with foreclosures as quickly as possible if no problems are found.  This is an unusually practical approach for the federal government to be taking, and it is  absolutely necessary to prevent a complete crash of the real estate financing system.

I promised in last week's post that we would take a look at who is really responsible for the foreclosure mess.  Obviously, a complete list would take a long time to compile.  Poorly underwritten lending products are one culprit.  Joblessness is another--without employment, Americans cannot make their mortgage payments.  And as long as unemployment hovers just under 10% we are going to see continuing problems with foreclosures. 

However, I believe that there are two other contributors to the foreclosure problem we have today who receive much less publicity.  In fact, I believe that contributor A helped create contributor B.  And that is what I want to talk about today.

What is contributor A?  The Making Home Affordable Program and the entire system of loan modifications as proposed by the Obama administration has exacerbated the foreclosure problem by 1. encouraging Americans to believe that they may be entitled to a lower payment, 2. by misrepresenting what modification means in real terms, 3. by putting homeowners in jeopardy of losing their homes if they do not complete the process, which many fail to do.

Consider this: a Huffington Post article entitled Extend and Pretend: The Obama Administration's Failed Foreclosure Program, posted 08/4/2010, took an in-depth look at HAMP.  The stated goal of HAMP according to a speech made by the President in February of 2009 and quoted in the Huffington Post article, was to "enable as many as three to four million homeowners to modify the terms of their mortgages to avoid foreclosure."   As of August 4, 2010,  approximately 1.2  million homeowners had applied for loan modifications under the Making Home Affordable Program, but  only about 400,000 people received a permanent modification.  About 529,000 people were denied and the rest were still waiting for an answer.

So what does a program that is designed to reduce monthly payments and help homeowners stay in their homes have to do with the current foreclosure crisis?  Plenty.  For one thing, homeowners who applied for the Making Home Affordable Program were put on a trial modification which temporarily reduced their payments while the loan servicer determined whether they qualified to receive a permanent modification.  The purpose of the modification was to reduce the mortgage payment to 31% of the home owner's income to make it easier for the homeowner to stay in the house.  The problem was ( and is) that home owner's have to be able to document income and assets and to qualify for the relief offered under the program.  And even though the qualification process is supposed to take three months, for many borrowers it drags on and on. The Huffington Post article tells the story of Bea and Terry Garwood who applied to Chase for relief under the HAMP program in April of 2009 and had their mortgage payment reduced during the HAMP trial.  However, after almost a year of waiting, they were told this past March that they did not qualify for modification after all and they were being kicked out of the program.  At that point, they owed Chase $12,000--the difference in the payment they had been making and the actual payment on the house.  Borrowers kicked out of the HAMP program also owe the servicer late fees in addition to the principal and interest that has been deferred during the trial modification.

A borrower who is struggling making his or her payments might continue to struggle to do so while looking for a job or trying to cut expenses.  But a homeowner who has been lured into HAMP and then rejected from the program generally cannot come up with thousands of dollars additional in order to bring the note current after paying a reduced payment every month in the form of a trial modification.  So a program that is supposed to save homeowners from foreclosure by reducing their payments actually endangers their homes if they do not qualify for a permanent modification.

But HAMP also puts borrowers in a position where they ultimately owe more than they did when  they started.  Since HAMP does not reduce principal--it just lowers the payment,for five years--the borrower still owes the full amount of the mortgage, but he will owe that mortgage over a longer period of time, and with home prices continuing to decline, even borrowers who successfully complete HAMP trial modifications may conclude that continuing to make the house payment on a property that is depreciating just is not worth it.  Some statistics show that as many as 70% of borrowers who receive a HAMP modification will end up in foreclosure anyway because they cannot afford the mortgage payment.

As far as I know there are no studies directly linking HAMP modifications to foreclosures.  However, the Huffington Post did have some interesting statistics:  Since the implementation of HAMP,  1.2 million homeowners have applied for the program, 389,000 have been approved, and banks have foreclosed on nearly 1.1 million borrowers (almost three times the number of those receiving permanent modifications.)

The point of the Huffington Post article is that HAMP, while unsuccessful, was necessary to delay foreclosures so that housing prices could rise.   But it is my belief that many of those who are losing their homes today might not be doing so at all if HAMP had not been introduced.  If HAMP were a private initiative rather than a government-based one, it would now be decried as the worst form of predatory lending--a program which offered false hope to struggling homeowners while burdening them with debt they could not pay and then resulting in the loss of their homes.

As the U.S. now faces the foreclosure crisis head on, we need to begin to take a long hard look at the long- term consequences of our actions.  Today's encouragement from regulators to proceed with processing foreclosures is one major step in the right direction.  We need to stop delaying the inevitable and start dealing with reality.  And we need to stop promising homeowners help that we know is not coming.  For many of these homeowners, the only way they can actually Make Home Affordable is to move out and get into a new place that they can actually afford.

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