Behind the scenes of last night’s debate – well behind – is a foreclosure crisis that has entered its sixth straight year. This is another fire that has not been put out. The only approach in the debate to even talking about this fire was a brief discussion by Gov. Romney about qualified residential mortgages, and his belief that not determining the rules for a QRM has hurt the housing market because of the resulting uncertainty. To the extent that there’s been a delay on deciding the contours of the qualified residential mortgage, it’s because bankers – sadly helped by affordable housing groups – have endlessly lobbied on the issue. And members of Congress of both parties have waded into this as well, to try and graft a safe harbor for mortgage brokers onto the rule. Dodd-Frank wasn’t a law but a plan to write a law later, and the delays result directly from that.
But this is a completely tangential issue to the crisis in housing. And it’s another area where the candidates, and the political class, didn’t show an interest in talking about it.
I’ve actually talked about this with a couple people this week, trying to figure out where the foreclosure crisis is headed. Professor Alan White has a very good exigesis. Since 2007, 4.5 million foreclosures have been executed, and between 4-5 million more are either delinquent or in foreclosure currently. That means that we’re no more than halfway through the crisis. Serious defaults, more than 90 days, are below peak, but defaults still represent 10% of all mortgages.
White puts a light gloss on this:
The good news is that the performance of modifications continues to improve, according to the latest OCC mortgage metrics. As more and more modifications reduce interest rates and payments, and even principal, the number of re-defaults steadily and continually goes down. Only 22% of 2011 modifications later went seriously delinquent or were foreclosed.
Principal reductions were included in 10% of all modifications in the 2nd quarter of 2012. The 10% number masks some interesting variations. Principal write-downs were featured in 20% of HAMP mods versus about 7% of in-house mods. Bank regulators and FHFA clearly have different views on the soundness of principal reductions; banks are writing down principal on 28% of their portfolio loan mods and 16% for private securitized loan mods, while principal reduction for Fannie and Freddie mortgage mods remain at 0%.
Some of this has to do with the foreclosure fraud settlement; principal reduction wasn’t going to be completed without duress, as we can see from the Fannie and Freddie loans. I talked to Katherine Porter, the monitor of the foreclosure fraud settlement in California, to ask how modifications and consumer relief was going. While the first report of the national settlement monitor showed the relief coming mostly from short sales, she did add that other relief, like principal reductions, is beginning to roll out. It has to, because the short sale relief is limited in terms of the credit it will get the banks in the settlement.
“Bank of America had a short sale department, but no department that offered principal reductions,” Porter said by way of example. “So that was the biggest change, and we’re now seeing principal reductions with some big numbers.” Bank of America is now offering the extinguishing of 150,000 second liens, though whether that will lead to acceptance remains to be seen.
We don’t know about how many of these principal reduction offers concern already discharged debt or other invisible debts. And even with these principal mods, the short sales are obviously dwarfing the alternatives. What’s important is to see whether people are turning to short sales in absence of any other choices. “That’s why the servicing reforms are really important,” Porter said. “It’s important that short sales occur after a fair opportunity to keep the home. We want to make sure that people aren’t railroaded into short sales.” Servicing reforms that ensure a timely, 30-day response for a loan modification and the right to appeal the denial of a modification could at least expand the map of alternatives. That’s if they get adopted fully.
Servicers are, according to some analysts, rushing to provide consumer relief because of the looming expiration of the Mortgage Forgiveness Debt Relief Act. There are incentives in the foreclosure fraud settlement to get relief out the door quickly, but if Congress fails to extend the debt relief law, all principal forgiveness will be seen as earned income to the borrower for tax purposes. That will lead to a significant resistance to accept principal reduction, and as a result lead to more foreclosures and defaults. Moreover, servicers will not be able to meet their targets under the settlement. “Banks are completely aligned here,” says Porter. “They have to hit a target and it becomes hard for them to do it… They don’t trust Congress to fix this.”
One other positive move comes from Senator Jeff Merkley. He has gotten buy-in from the Treasury Department to begin his pilot program, using unspent money in the TARP Hardest Hit Fund, to help underwater borrowers with a program that resembles the Depression era-Home Owners Loan Corporation.
The problem with this optimism is that it’s all happening at a relatively small scale, relative to the problem. There are 4-5 million homes in foreclosure or delinquency. If the debt relief from the settlement and private alternatives reaches 1/5 of them it would be a miracle. Everyone else will have to struggle on their own. The urgency to reach a solution in a timely manner remains remote.