Little help for distressed homeowners

For every homeowner who benefited last year from the government’s Home Affordable Modification Program, 10 more went into foreclosure, a new report says.

In a 230-page report (.pdf file) on the Obama administration’s foreclosure rescue efforts, the Congressional Oversight Panel found that the number of homeowners who have received permanent mortgage modifications has grown substantially since December but is still just a drop in the bucket.

“Treasury’s response continues to lag well behind the pace of the crisis,” the panel noted. “As of February 2010, only 168,708 homeowners have received final, five-year loan modifications -- a small fraction of the 6 million borrowers who are presently 60-plus days delinquent on their loans. …  It now seems clear that Treasury’s programs, even when they are fully operational, will not reach the overwhelming majority of homeowners in trouble.”

The number of permanent modifications reached about 230,000 in March, The Associated Press reported. But that’s a small number compared with the 2.8 million foreclosure notices filed last year.

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Even “permanent modifications” aren’t a permanent solution, the report noted, since they aren’t really permanent. The lower payments remain in effect for five years, after which the rate gradually will adjust to the market rate at the time the modification was approved. Of those who have received modifications, 75% are underwater, or owe more than the homes are worth. That makes it likely that some borrowers will be back where they started in five years, once again unable to make the payments or sell the home for what's owed. That’s right, facing foreclosure. The panel noted:

Most borrowers who proceed through HAMP will face a precarious future, but their resources will be severely constrained. With a majority of their income still tied up in debt payments, a small disruption in income or increase in expenses could make repayment almost impossible. Many will have no equity in their homes and are likely to question whether it makes sense to struggle so hard and for so long to make payments on homes that could remain below water for years. Many borrowers will eventually redefault and face foreclosure.

In other words, the panel wrote, “billions of taxpayer dollars will have been spent to delay rather than prevent foreclosures.”

Acknowledging, however late, the challenge of homeowners with negative equity -- at least 25% of homeowners with mortgages and more than 50% in some hard-hit states -- the Obama administration announced in late March new programs that would forgive principal. The rules are yet to be devised, and the programs don’t go into effect until fall.

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But participating in those programs is voluntary on the part of the lenders and, judging from the testimony of the representatives of two big lenders at a congressional hearing Tuesday, they may not volunteer.

“If we rewrite the mortgage contract retroactively to restore equity to any mortgage borrower because the value of his or her home declined, what responsible lender will take the equity risk of financing mortgages in the future?” David Lowman, chief executive for home lending at JPMorgan Chase, asked.

The congressional panel seemed to come down on the side of more principal forgiveness and made other suggestions to improve the programs, such as coming up with a good plan quickly and sticking to it.

One argument for government intervention to stem the tide of foreclosures is the effect of foreclosures on the housing market as a whole, contributing to a downward spiral in housing prices, as well as the blight abandoned homes cause in neighborhoods.

But oversight panel member J. Mark McWatters, a Dallas lawyer and CPA, wrote a lengthy dissent, suggesting the whole foreclosure prevention effort was a bad idea.

The Administration’s foreclosure mitigation programs … have failed to provide meaningful relief to distressed homeowners and, disappointingly, the Administration has created a sense of false expectation among millions of homeowners who reasonably anticipated that they would have the opportunity to modify or refinance their troubled mortgage loans…. It is exceedingly difficult not to conclude that these programs have served as little more than window dressing carefully structured so as to placate distressed homeowners.

McWatters suggested the best remedy would be “a steady job at a fair wage and not a hodgepodge of government-subsidized programs that create and perpetuate moral hazard risks and all but establish the U.S. government as the implicit guarantor of distressed homeowners.”

What do you think? Can the government devise a foreclosure rescue program that will save enough homes and bolster the housing market? Or should the administration let market forces take over, letting the unemployed and the underwater slide into foreclosure?

Related reading:

• Mortgage modification hell
• Bank of America steps up loan modifications
• City unveils kinder, gentler foreclosure plan
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