The U.S. Treasury Department is exploring a plan that could help 1 million or more homeowners avoid foreclosure, according to housing market executives.
The proposal is aimed at promoting modifications of delinquent or defaulted home loans, including writedowns of principal, by bringing fresh private capital into the market. It would apply to mortgages that are bundled into mortgage-backed securities not issued by government agencies.
One of the impediments to breaking the nation’s cycle of foreclosures and falling home values is that writedowns can’t happen under the convenants governing such securities. The proposal being looked at by the Treasury is aimed at unlocking the so-called private-label notes that account for about 20 percent of the $6.8 trillion in mortgage-backed securities outstanding.
“This is not a silver bullet, but it is one of the tools that should be used,” said James Lockhart, the former regulator of mortgage companies Fannie Mae and Freddie Mac. “We think this would be a way to stop some of the foreclosures, help stabilize neighborhoods and help save some families.”
Helping homeowners avoid foreclosure would bolster the housing market, which Federal Reserve Chairman Ben S. Bernanke called “one of the major sources of the slow recovery” in testimony to Congress last week.
Sales of previously owned U.S. homes unexpectedly declined in June to a seven-month low as the industry struggled to overcome rising unemployment and foreclosures, according to data released today by the National Association of Realtors.
The plan being looked at by Treasury is based on a paper whose main author is Jordan Dorchuck, executive vice president of American Home Mortgage Servicing Inc. in Coppell, Texas. Dorchuck said he’s contacted other loan servicers at the behest of the Treasury Department to gauge their interest in the proposal and generally they think it could have some value.
“Treasury is interested, but they don’t want to endorse a program unless they think it will be successful,” Dorchuck said. Treasury Department spokeswoman Andrea Risotto declined to comment.
The proposal coincides with Obama administration efforts to step up aid to homeowners and revive the housing market. The administration’s Making Home Affordable foreclosure-prevention program has fallen short of expectations, according to data from the Treasury. When President Barack Obama announced the program in 2009, he set a goal of 3 million to 4 million modifications by the end of 2012. Of the 1.6 million trial plans started since then, 608,615 have turned into permanent modifications, the data show.
“We’ve made some progress,” Obama said at a town hall meeting at the White House on July 6 sponsored by Twitter, Inc. “But it’s not enough. And so we’re going back to the drawing board, talking to banks, try to put some pressure on them to work with people who have mortgages to see if we can make further adjustments, modify loans more quickly, and also see if there may be circumstances where reducing principal is appropriate.”
Nearly 11 million U.S. homeowners were “underwater” on their mortgages in the first quarter of 2011, meaning their properties were worth less than the amount they owed, according to CoreLogic, a data company in Santa Ana, California.
Laurie Goodman, an analyst at Amherst Securities Group LP in New York, said the proposal has merit and estimated that 1 million homeowners could benefit. “The idea of having the facility to sell loans out of trust is very valuable,” said Goodman. “There just have to be protections in place to make sure the investors get the best price for these loans.”
If that happens, the value of the securities would likely increase, she added. In their paper, Dorchuck, Lockhart and housing consultant Pete Mills argued that market prices of the securities already reflect anticipated losses from foreclosures that would be avoided via the loan sales.
Of the residential mortgage-backed securities outstanding, about $1.3 trillion are so-called private label notes that were issued by banks and other financial institutions, according to data from the Securities Industry and Financial Markets Association. “That’s where a lot of the trouble is sitting,” Lockhart said.
Many contracts governing such securities cap the percentage of loans that can be modified or prohibit reductions of principal, according to the paper by Dorchuck, Lockhart and Mills, managing director of Mortgage Banking Initiatives Inc. in Alexandria, Va.
To get around that, they want the Treasury to help clear the way for sales of delinquent or defaulted loans out of the securities at a discount to outside investors.
Because they would buy the loans at less than face value, these investors would be more willing to renegotiate the terms, including writing down principal, the plan’s backers say.
No government money would be needed, Dorchuck said. The Treasury would have to provide the banks servicing the loans with legal cover against lawsuits by designating short-sales as “qualified loss-mitigation activity” under legislation passed in 2009.
Lockhart said Treasury officials have talked about the plan with its backers, though he himself hasn’t discussed it with the department. He declined to elaborate.
Dorchuck’s American Home Mortgage Servicing Inc., which calls itself the 15th largest such company in the U.S., is owned by WL Ross & Co. LLC in New York. Lockhart, one of the paper’s authors, is now vice chairman of WL Ross.
Dorchuck said both companies might benefit if the plan went through, because Ross is a buyer of mortgages and AHSI could get more servicing business.
Goodman and Lockhart said that there are enough potential buyers of the loans in the market to make the plan work.
“There’s reasonably good demand among private equity investors for pools of mortgages,” Lockhart said. “We certainly have bought some for our mortgage fund, and we’ve seen a lot of competition out there.”
Such demand would allow the banks to get more money from the sale of the loans than from taking the borrowers through to foreclosure, he said.
The plan wouldn’t cover mortgage-backed securities issued by government sponsored agencies, primarily Fannie Mae and Freddie Mac. The Federal Housing Finance Agency, which regulates Fannie and Freddie, bans writedowns of principal of the loans the two companies hold because that would lower the value of their assets at a time when they continue to rely on taxpayer aid to operate, FHFA Acting Director Edward J. DeMarco said in a March letter to lawmakers.
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