Consumer Law & Policy Blog

Obama Administration Plan to Help Borrowers Takes Shape

The Times is reporting here on some aspects of President Obama's plan to help borrowers facing foreclosure.  An excerpt:

President Obama’s plan to reduce the flood of home foreclosures will include a mix of government inducements and new pressure on lenders to reduce monthly payments for borrowers at risk of losing their houses, according to people knowledgeable about the administration’s thinking.

The plan, to be announced Wednesday, is expected to include government subsidies for reducing a borrower’s interest rate, which a lender would have to match with its own money.

But officials cautioned that subsidies for lower interest rates would not in themselves help many troubled homeowners, because lenders were still likely to view many of those borrowers as bad risks and refuse to restructure their loans. As a result, they have been casting about for sticks as well as carrots to persuade the lenders to take part.

Times Reports on Identity Theft Risks, Foreclosure Crisis, Privacy Policies, and More

by Jeff Sovern

Lots in the Times this week on consumer law issues, so here goes.  Tomorrow's Times will include Bob Tedeschi's Mortgages column, Your Financial Data: How Safe is it? about a Wolters Kluwer Financial Services of Minneapolis survey that found that many smaller lenders transmit consumer financial data in unsecure email, thus exposing borrowers to the risk of identity theft. Meanwhile, today's Times had a story, Some Banks Will Put Off Foreclosures Until March, while they wait for the Obama administration plan, about which Alan blogged earlier today. The Times had a brief story about the Obama administration's attempts to develop such a plan yesterday.

Yesterday the Times also published Agency Skeptical of Internet Privacy Policies.  Here's an excerpt:

The Federal Trade Commission had some sharp words for Internet companies Thursday, saying that they are not explaining to their users clearly enough what information they collect about them and how they use it for advertising.

For now, the commission is sticking to its view that the Internet industry can voluntarily regulate its own privacy practices.

But the tone of the report, and comments by several commission members and staff officials, indicated that if the industry does not move faster, the agency would increase regulation or call for Congress to legislate stricter online privacy rules.

* * *

Ms. Harrington challenged Internet companies to explain what they are doing in a section other than its privacy policy.

The commission did not specify what sort of notice companies should give, but it noted that some have proposed methods that are more visible to the average user, like a link right on each advertisement that leads to an explanation of what data the advertiser collects and uses.

“This is about advertising, so these people ought to be creative,” she said.

“We know advertisers can get their messages across when they want to. They darn better want to get this message across: ‘This is what we are collecting and this is how we are using it.’ ”

Thursday's issue included a story about a crime that may become a sad sign of the times: Philadelphia Grand Jury Says Crime Ring Fraudulently Sold 82 Houses.  The ring sold unoccupied houses, thereby injuring both the current and putative owners.   

Wednesday brought A Pill That Promised Too Much about the settlement reached between the FDA and attorneys general with Bayer over allegedly deceptive advertising of the birth control pill, Yaz.  Those using our casebook this semester will be pleased to see that the settlement includes corrective advertising, something discussed in chapter one. 

Senseless Foreclosure Story: Bernanke Home

The Wall Street Journal reports today on the foreclosure sale of Chairman Bernanke's childhood home in South Carolina.  The couple that lost the home, a National Guard soldier and a Wal-Mart store assistant manager, bought it with a subprime mortgage at 10.1% from Option One, the now-defunct H&R Block subprime affiliate.  The $123,000 mortgage required monthly payments of $1,088.  After several job setbacks the couple fell behind and the servicer foreclosed, recently selling the home for $83,000.  If instead of foreclosing, the servicer had offered the couple a modified mortgage at say $90,000 at 5.5% interest, their payment would have been around $510, i.e. half of the prior payment.  The story doesn't provide all the details but this sounds like a loan that could have been saved, for the mutual benefit of the homeowners and the investors, who ended up with a loss of $40,000 plus interest and expenses.

Moral hazard and adverse selection redux

By Alan White

The Administration's foreclosure rescue plan, expected to be announced next week, will have to contend with the bad incentives it will create for mortgage lenders and servicers.  While much ink has been spilled about moral hazard for borrowers, the delay and uncertainty about foreclosure aid has mostly created moral hazard for servicers.  One of the reasons mortgages are not being restructured with principal reductions now is that servicers are waiting for the government bailout.  Why write down a mortgage to make it work, after all, if Uncle Sam will just write you a check to achieve the same goal?  Thus does the promise of subsidy create a hazard that servicers will continue offering unrealistic modifications that increase principal debt, or delay offering any modifications at all.  While there is welcome news this week that some banks are delaying foreclosures in anticipation of the program, the anticipation is also disincentivizing banks from doing the modifications that need to be done.

The second danger is that of adverse selection.  If Treasury will now be guaranteeing losses on modified loans, or subsidizing interest payments, rational servicers will choose the loans with the largest potential losses to nominate for the government program.  Any subsidy going to mortgage lenders and investors has to be very carefully designed to reward only successful and sustainable mortgage modifications.  At a minimum we need foreclosure reduction goals, monthly reports on progress towards the goals, and payments to banks and servicers tied directly to performance in reducing foreclosures and mortgage defaults.

Update - January's Subprime Mortgage Modifications

By Alan White

Mortgage modifications in January continued converting risky subprime loans into risky modified loans.  Negative amortization and temporary rate reductions with future rate shock remain common in modifications.  Here is my summary of the January 25 investor reports (covering the 12/26/08 to 1/25/09 period).

Mortgage modifications increased in January 2009, but payment and balance increases still predominate.  There were 23,224 mortgage modifications in January in a database of 3.4 million subprime and alt-A mortgages, up from 20,391 in December and 19,112 in November.  Modifications increasing loan balances still dominate, with 89% of modifications involving some capitalization of arrears, and only 12% involving any write-offs of principal, interest or fees (See data tables).  Monthly payment reductions accounted for 49% of all modifications, essentially unchanged from November and December, while 13% of modifications did not change the payment and 38% increased the payment.

                  Investors lost $3.8 billion from foreclosure sales, compared with $73 million from write-downs in connection with mortgage modifications.  Looking only at the 12% of modified loans with write-offs, the average write-off was $26,000, or about 13.5% of the original loan amount.  For liquidated foreclosures, the average loss was $130,000, representing about 61% of the original loan amount.  There were more than ten times as many foreclosure liquidations as modifications with any write-off.  The ratio of foreclosure losses in dollars to modification write-downs was 52 to 1. (table 8). 

The Wrong Foreclosure Plan

By Alan White

All indications are that the Administration will announce a foreclosure plan next week that consists largely of throwing taxpayer money at investor losses.  This is as wrong-headed as it could possibly be.

Absent from all discussions are any proposals to stop, delay, or reduce the number of foreclosures.  Loose campaign talk about a moratorium seems to have been forgotten.  Remember those "troubled assets" that are dragging down the financial system?  Many are linked to mortgages that are currently valued based on the last 3 to 6 months' performance, which consisted largely of foreclosing mindlessly at 50% to 60% loss severities.  The value of bank assets would be enhanced, not further diminished, if mortgage servicers, with some help from bankruptcy courts, stopped foreclosing and started writing down mortgage debt to sustainable levels for every homeowner willing to make payments.  There is absolutely no reason to fork over taxpayer dollars to cover 25% losses on loan modifications, when investors are today absorbing 60% losses on foreclosures.

Three ingredients are necessary for a successful foreclosure plan.  First, foreclosures have to be stopped, for a long enough period to work out every salvageable loan.  Second, servicers must be compelled, by bankruptcy or other legislation, to write down mortgage principal and interest for every homeowner who can afford her house.  Third, any taxpayer funds should be used to compensate mortgage servicers directly for good performance, i.e. for successful sustainable modifications.  The servicers, not the investors, are making the (wrong) decisions now about foreclosures.  Changing their behavior can stop the simultaneous housing and banking catastrophes, and do far more for investors than Treasury payments or guarantees.

The impending sell-out

The Naked Capitalism blog has an excellent discussion today of why the Administration's likely plan to rescue banks is a rescue for shareholders and bondholders and a disaster for taxpayers.

Fed to Write Down Mortgage Balances

Yesterday Chairman Bernanke announced in a letter to Congressman Barney Frank that the Fed will include principal reductions in its plan to modify mortgages that it controls through Maiden Lane LLC, a vehicle set up by the Fed to hold mortgages from Bear Sterns that JP Morgan didn't want.  In particular the Fed foreclosure prevention policy contemplates priority write-downs for mortgages that exceed 125% of current home values.  While the Maiden Lane portfolio (about $27 billion, of which only half are residential mortgages) is a drop in the bucket, the Fed's embrace of principal reduction is a departure even from the FDIC's proactive loan modification program, which prefers deferring principal to actually cancelling it.  Let's hope this design influences the soon-to-be-announced Administration plan to address the foreclosure crisis.

Update:  Wells Fargo's announcement Monday that it will offer streamlined modifications to 478,000 Wachovia borrowers includes a promise to write down principal in areas where home values have declined significantly.  It seems that the dam (holding back principal reductions) is starting to break.

Nationalize the Banks, Modify the Mortgages

By Alan White

No more than 10 companies now service most of the mortgages in the U.S, including the four big banks (Citi, Wells Fargo, Chase and BofA).  Ocwen is aggressively modifying mortgages, including principal writedowns, and is reporting good results, including reduced delinquencies and foreclosures.  The rest are adamantly refusing to write down principal debt.  My new study on this topic is posted on SSRN.   

All the proposals to solve the foreclosure crisis have aimed at creating incentives and removing obstacles for servicers to do what needs to be done.  The time for nudging servicers is past.  Now is the time to tell them what to do.  Who can tell them what to do?  Treasury Secretary Geithner of course.

Times Piece by Debt Collector and Reports on Other Consumer Issues

Today's Times has a piece written by a debt collector about how he helps people, In Tough Times, A Debt Collector Sees the Pain.  An excerpt:

When someone calls back and thanks you for suggesting they get the debt resolved with me before it appears on a credit report, I think, “Wow, I did do good for someone.” It’s a great feeling to help someone out of a dire situation. I’ve helped young people just out of school and took time out to explain how bad credit could hurt them in the long run. They call back and say: “Thanks for the advice. You’ve saved me years of heartache.”

I wonder if the Times will print any letters from those who have different feelings about debt collectors (maybe readers of the Blog?).  The article was in the business section, so letters should be emailed to sunbiz@nytimes.com. 

Another article in the Business section, Phones as Credit Card? Americans Must Wait, describes how we may someday use cell phones as payment instruments, something that has been occurring in Japan for years.  Does that mean that cell phone contracts will someday include TILA disclosures? And from the Real Estate section, Safeguarding Against Loan Discrimination, about settlements reached by the New York State Attorney General's Office with two mortgage brokers accused of charging minority borrowers higher fees than white borrowers, and how borrowers can protect themselves. 

Wednesday's paper brought distressing news: Big Breach in Card Data Raises Risk for Millions.  Here's the first paragraph:

Heartland Payment Systems, a major payment processing company, disclosed a data breach on Monday that potentially exposed tens of millions of credit and debit cardholders to the risk of fraud in what could quickly become one of the country’s biggest data compromises.

At the risk of trampling on Alan White's territory, here's an article from back on December 21 that I never got around to posting, Bob Tedeschi's Mortgages column titled Revising Loan Modifications.  Some excerpts:

“The average loan servicer wants to reach a resolution about a loan modification with a single letter or a phone call,” said Steven Horne, the president of Wingspan Portfolio Advisors, which helps clients renegotiate loan terms. But, he said, devising an effective long-term strategy to enable a borrower to avoid foreclosure might take several rounds of communication.

* * *

But Mr. Horne, a former executive at Fannie Mae, suggested that the new loans had not been structured to best meet borrowers’ financial circumstances, in large part because the loan servicers that collect mortgage payments cannot engage in a lengthy analysis of each borrower’s finances.

It is up to the borrowers, therefore, to be more proactive. Mr. Horne says they can increase the likelihood of securing the right loan if they push for more personal attention, and do a little homework about their own finances.

And from December 18, Yahoo Puts New Limits on Keeping User Data, about how Yahoo will keep some personally-identifiable data for only 90 days, less time than the other major search engines.