The unfairness of government-backed mortgage modifications

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

Your thoughts? Comments? E-mail story tips to Peter Viles.

Comments

[sanity clause]

While he might have a point, hearing it from a greedy shill at PIMCO while Bill Gross pushes his friends at Treasury to bail out his bond positions is a bit much. PIMCO is all about letting the free market sort out winners and losers so long as the government insurers they're winners.

[Ken P.]

Thanks for the details. I have a call into Countrywide to ask that my 7.2% fixed be lowered to 2.4% I have never been late on my payments, but I'm threatening to be late if I don't get the rate lowered. And while I'm at it, I'm calling the IRS and asking for a four year extension on my taxes. I'm not feeling the urgency to give the federal government any more money right now. So my kids will have a Christmas, I'm going to charge up my credit cards but don't plan on making payments until I get a bailout check from the new congress.

[Rational Renter]

STOP talking about ending the housing slump. STOP talking about mortgage modifications. STOP talking about principle reductions. The only thing that will stabilize the housing market is lower pricing. These analysts are paid in the high 6 figures and yet no one can figure that out, or maybe they just don't dare speak the truth.

All any of these efforts to fix the "problem" will due is DELAY THE INEVITABLE. Let's say the government steps in with a program that ends all foreclosures and keeps everyone in their homes (impossible, of course, but this is a rhetorical scenario). That STILL doesn't stabilize the market, because no future buyers will ever be able to afford housing at their current levels!

[Tim]

To play devil's advocate, I disagree government backed mortgage modifications are unfair. Or that all people who get them are fools being rescued. For one, it is unreasonable to expect all home buyers in a booming market to suddenly opt out of the market. People move to new homes because of job changes and other legitimate non-foolish reasons, whether the market is headed up or down.

On the government side, there is an economic and social argument to be made that the government has responsibility to manage the worst effects of the economy, to prevent a total meltdown and/or Depression. Some people might want to return to the bad old 1800s when economic booms and busts were more pronounced. I'd prefer to take the risk the government, in some narrow cases, will reward foolishness as it smooths out the worst bumps in the economy.

[Dan]

My head just exploded.

Welcome, Komrade, to the People's Republik of Amerika.

I strongly urge every single American with a mortgage, ESPECIALLY those responsible monthly payers, to hold their mortgage holders hostage.

As long as the holders are having a sale, jump on board before it's too late!

Is everyone familiar with the principle known as "The Law of Unintended Consequences"?

I don't recognize my country (well, at least my government) any more.

So let me get this straight.... the Angelo Mozillos are laughing all the way to the bank. $36K/yr painters are buying $400K homes. And me, a small business owner, husband, father, family man, saving for a small home, I'm the dope?!??!

Beam me up, Scotty. No sign of intelligent life down here.

[FairEconomist]

The way to handle writedowns is via cramdowns - the way it was always done, until the early 90's. No cramdowns means excessive foreclosures. Targeted mortgage mods reward the irresponsible. Blanket mortgage mods put too much pain on the banks.

There's a lot of wisdom in common law. It took a lot of experience to realize that underwater loans should be written down only in the context of bankruptcy, and it was a great loss that that hard-earned wisdom was thrown away when cramdowns were banned. At least they only banned cramdowns for owner-occupied primary residences, so the damage was less than it could be.

[Laker]

I read today from American Banker that "PNC to Buy Nat City: The Pittsburgh company said it would receive about $7.7 billion from Treasury and pay about $5.6 billion to acquire the Cleveland company"

Let me get this straight, can i Get the government to give me a 1 million dollars and i will go and buy the house i want for $700,000.

Better yer, can i have the FED give ME the $7.7 Billion, i promise to buy Nat city for $5.7 Billion. That is 100 million MORE than PNC want to pay...
The government gives the bank out tax payer's money in order to lend it to companies and people on main street. The banks take this money and either keep it or buy bank with it....

[CompaJD]

Doing these will prolong the recession for over a decade.

[CivilDisobedience]

it is hard to put into words the frustration of those of us who sat out the California bubble, lived below our means and saved our money, all the while exposed to a total marginal tax rate roughly 3 times that paid by Warren Buffet.

politicians spit in our faces with phrases like "stabilize prices", "aid homeowners", "government-backed mortgage workouts".

should we consider a protest where all of us who can easily make their mortgage payments punish these unfair plans by skipping a payment at the same time? as individuals this would have no impact. but if a few thousand Californians (or more) were to join together and agree on a month it would send a real message to the government and financial worlds that we are tired of being f$$$$d with and there are limits to what we will tolerate.

[Cal]

One of the side effect of TARP and just the threat/hope by lenders of a bailout is that lenders won't reduce principle. You'll see a lot of rate reductions graduating up to market rates but little cut of principle.

Rate reductions also act like a "shared appreciation" mortgage, if the economy turns around the lenders will be the ones seeing the gains.

All of it still works out to the fact that the math is still clear for many borrowers that they should walk. The government and the lenders are just trying to hope they aren't smart enough to figure that out themselves.

[MyLessThanPrimeBeef]

If you can't handle one of the biggest decisions in your life, and buying a house is one of them, I think you should voluteer not to vote and save this country further troubles. Hopefully, upon hearing your decision to forgo voting next month, both candidates will stop pandering to you.

No, divorced people can still vote, for in love, there is no right or wrong.

[Nick]

It must be a sign of the times that I can't really bring myself to care too much about this. I mean, the country is about the elect a socialist regime which will likely permanently destroy what's left of our industrial base and send the country into a decade+ depression, Congress just passed a $800 billion payout to the people who caused the housing bubble and collapse, and people are concerned about some government handouts to idiotic housing speculators? I mean... hello? It's like being upset that someone nudged you on the way to the life boats as the Titanic sinks...

[Yearning For A Home]

I tremble with rage at the appalling inequity. For over a decade, my wife and I have labored to piece together a down payment, we've squeezed our family into one bedroom, we've paid down our debts, driven fifteen-year-old cars, avoided the pricey vacations, and worked our butts off at our jobs... all the usual sacrifices necessary to achieve the American white-picket-fence dream. Ah, if only we had been greedy, irresponsible fools willing to blatantly lie on a mortgage application! Then this great country of ours would now be awarding us with a mortgage that has an interest rate below that of inflation.

When my son's old enough, how can I, with a straight face, tell him that nice (honest, hardworking, conscientious) guys actually don't finish last?

[Nelcisco]

Like I've said on an eariler post, it can work if there's regulations imposed, if not it'll be just as bad as the subprime
mess, if we can get the messege out that loan mods are for
homeowners that can prove hardship it'll be fine, its not for individuals that are not late or distressed.

One may argue its not fair rewarding the irresposible as FairEconomist said, agree, but if nothing is done then more foreclosures which means more writedowns by the banks,
more inventory which means lenders may lose their statis as a bank and will become more of a real estate
company, banks do not want to be RE companies.

[PlasticFantastic]

CivilDisobedience, that would be great, except the responsible people who have lived within their means actually have something to lose. That is a distinct disadvantage in Barney Frank's America.

In the current environment, one must either be weathy beyond reproach, or a penniless debt slave. Economic war is being waged on the rest of us. Our only hope is the time-tested incompetence and inertia of our government. History says that these attempts at market manipulation and price-fixing will fail, but in the meantime we can look forward to a Japan-style long recession. Lost decade? Try lost LIFETIME.

[Maggie Knowles]

Nelcisco - Banks DO want to do real estate, check with the NAR who lobbied hard against it.

[john]

I think it is up to all of us, the government, companies, you as a neighbor, everyone to get the word out. A stable market will benefit everyone, and help the economy.
The federal gov't FHA and Bank of America/Countrywide have committed to helping over 800,000 homeowners between them keep their homes. More info on the programs here.
http://www.needhelppayingbills.com under the mortgage link

[anonymous]

Roughly 85% of the American public is not a part of this problem, but boy the government is making sure everyone pays for it. Yes, they ARE rewarding fools, but let's add thieves and liars to that list.

They also do not have a clue about how angry the American public is right now. I guess they need to take yet another survey exclusively on land lines.

[Kathy]

Buried deep in that article was a tidbit that the borrower's income would have to be documented as meeting the criteria for the loan, and that since so many California loans were stated, this is going to be quite the task. I wonder what percentage of borrowers will not qualify based on income - sizable, I would guess. This plan is not going to have much of an impact, but it will take months of dreary bureaucracy to come to that conclusion.

[sheila]

huhn??? can't you read?

this is the SETTLEMENT TO THE GIGANTIC FRAUD LAWSUIT brought against countrywide because countrywide intentionally defrauded borrowers by steering them into higher-priced, riskier loans than they qualified for, and lied to them about what they were getting into. admitted. done. they did it and now they are paying.

this has nothing to do with "government" and everything to do with "settling a lawsuit because they ripped people off." most of these people have been grossly overpaying for months, which is part of the reason they get cheapo rates now.

this fraud by countrywide was one of the major drivers of this bubble and meltdown, and it is totally fair that they compensate their victims. taxpayers aren't paying for this - B of A is paying this. ok? private sector. nothing to do with taxes or government.

taxpayers are, however, paying for Big Bank PNC Financial to BUY ANOTHER BANK, rather than make that $7.7 billion of taxpayer dollars available to borrowers. isn't that nice? kind of a one-two punch. steal from us, then steal from us again, then create a monopoly to steal from us in the future. all on our dime...

keep looking upward, people. the scams are going on, and "they" are definitely ripping you off, but it's not someone else's compensatory private loan workout that you need to concern yourself with. it's the scary fascist consolidation of power and money at the top of the pyramid that you should be freaking out about...

[Snacker]

Send a message this election year to the Congressmen who voted for the irresponsible bailout -- don't vote for them.

It is one of the ways we can speak our minds.

The problem is that most of the economists and governmental leaders do not understand this mess very well at all.

They believe that the government can solve this problem by getting the consumer to spend more any which way possible. They want to support housing prices because they mistakenly believe this is the source of the problem.

They are simply wrong.

Excessive consumer spending is what got us into this mess. It is not going to get us out.

Next week the Fed is probably going to lower interest rates again. To what avail? That won't solve our recession problem either.

Until they understand the problem better, they will keep making mistake after mistake and it will eventually come to bite them.

And until then, they will be making a lot of people very angry in the injustice of rewarding the financially irresponsible.

[Steve]

Again you rent you get screwed, you own you win. All these chumps who rent and think they have dodged the bullit will soon be in a market that will soon appreciate because of billions of tax payers that will subsidze the owner no matter how broke they are.

[Tony]

Government should go after people that commtted loan approval fraud, lenders and loan brokers that approved loans for Mr and Mrs Fool knowing that they could not afford their payments. ( Of course payments that were out of wack with their income.) People that made big money by approving or encouraging liar loans should pay most of that money back, after all it was fraud.

[356man]

Um, Cal, is it reduction of "principle" or "principal"? Use of the former makes your argument sound rather specious.

[Mike Stover]

I saw this on Fox News about the Mo-Mod used for mortgage modifications
www.smithfieldwainwright.com

It seems they have the platform for this to happen