Consider a typical homeowner: a two-parent family with two children. One of the parents is recently unemployed and the family can’t afford their mortgage on the one remaining income, but their credit record is decent, and with a lower monthly payment, they could manage. Today they’re paying on time by using savings, but those funds are running out. What are the chances that this family can get a mortgage modification that will enable them to keep their home?
On the face of it, this family sounds like a good candidate for a loan modification under the federal government’s Home Affordable Modification Program (HAMP). The family’s mortgage is current, and their credit is good, but they have had a significant change in circumstances, and, more than anything, the family desperately wants to stay in their home. However, even though federal assistance is targeted to families just like them, their ability to keep their home will depend on the competence and commitment of their loan servicing company, their ability to get legal help, and their persistence in a process that is often onerous and frustrating.
The foreclosure crisis is too widespread and the stakes too high to allow this much uncertainty. To ensure that preventable foreclosures are, in fact, prevented, HAMP and policies outside of HAMP need to be changed to increase transparency and accountability of servicers and lenders.
Millions of families have already lost their homes, and the foreclosure crisis continues to drain precious resources from communities and ripple throughout the economy. The Urban Institute estimates that a single foreclosure costs an average of $79,443 in combined losses to homeowners, localities, and investors. The Center for Responsible Lending estimates that by 2012, homeowners who are current on their mortgage payments will have lost nearly $1.9 trillion in home value due to nearby foreclosures. Losses of this magnitude devastate communities and threaten the recovery of our nation’s housing market and broader economy.
Recognizing the severity of the foreclosure problem, the Obama administration unveiled the Home Affordable Modification Program in March 2009, authorizing up to $50 billion in financial incentives to mortgage servicers to modify mortgages and reduce monthly payments. When announced, HAMP was a welcome relief, as it was the first federal effort to address the foreclosure problem head-on.
One of the most valuable contributions of HAMP has been to standardize the loan modification process. Relying on a variety of incentives directed at investors, servicers, and borrowers, HAMP has instituted the “net present value” (NPV) evaluation as a key part of how servicers make loan modification decisions. Through its NPV analysis, the servicer calculates the probable financial value of a loan modification versus a foreclosure. It then bases a homeowner’s eligibility for help largely on whether the investor profits more from a loan modification or a foreclosure.
The problem is that this NPV analysis currently operates within a “black box,” where servicers are not required by HAMP to disclose inputs and assumptions used in their calculations. When homeowners and their advocates have no way to assess a decision based on NPV, there is too much room for mistakes or abuse that can’t be detected.
Although HAMP was initially projected to prevent three to four million foreclosures, only 389,198 permanent loan modifications had been made as of June 2010. (See how loan modifications compare to serious delinquencies through the first quarter of this year.) The program’s effectiveness has been hampered by a lack of transparency, inadequate servicer capacity, a piece-by-piece rollout of complementary programs addressing second liens and short sales (see timeline), inadequate compliance review, minimal public data availability, and — most disturbing — widespread violation of HAMP guidelines by participating servicers.
Homeowners and advocates often give dismal reports on their direct experience with HAMP, with a common complaint being that servicers do not respond to homeowners quickly and effectively. In many cases, families who would qualify for a loan modification under the program still get pushed toward foreclosure due to repeated administrative snafus by lenders and servicers.
Rochelle Sparko, an attorney at the North Carolina Justice Center, tells a typical story about a family whose income appeared to have qualified them for a loan modification: “The family and I have repeatedly sent the documents requested by the loan servicer, only to be told they now can’t find them. When I say I have the fax and certified mail receipts confirming they were correctly delivered, [the servicer’s] response is to ask for a new, different set of documents. I wouldn’t be working so hard for this family if I didn’t think they were eligible for help. Of course, the criteria the servicers use to evaluate eligibility are not publicly available. It seems as though servicers have basically created an unending paper chase that may end up making it impossible for this family to obtain a HAMP modification and keep their home.”
While HAMP has done well to standardize the foreclosure process, one of the greatest deficiencies of the program has been the wide discretion left to lenders and servicers. Without mechanisms to create transparency and demand accountability, HAMP has not yet been able to stop preventable foreclosures on a scale that could have been possible from the outset. However, even with the setbacks thus far, HAMP and the system that’s been built up around it can still be put to work, as discussed below.
Positive Steps, Deficiencies, and Recommendations
Since the program was launched in March 2009, the U.S. Treasury Department and Congress have taken incremental steps to improve HAMP. For example, servicers are now required to evaluate eligible homeowners for a HAMP modification prior to initiating foreclosure. Servicers must now consider families in bankruptcy for a HAMP modification, and qualifying homeowners who lose their jobs must be given at least a three-month forbearance. Beginning in fall 2010, servicers must also evaluate the net present value of reducing the borrower’s principal amount if their loan is underwater (i.e. more than the value of their home), and Treasury will be making the NPV inputs and outputs publicly available.
Meanwhile Treasury has made $4.1 billion of “Hardest Hit Market Funds” available to 17 state housing finance agencies to support local foreclosure prevention efforts in states bearing the greatest burdens of housing price decline and unemployment or underemployment. Like the enhancements made to the HAMP program, the objective of the HFA Hardest Hit Fund is to prevent avoidable foreclosures by assisting underwater homeowners, unemployed homeowners, and homeowners with second liens.
There are still problems, though. As of January 2010, servicers have been required to notify homeowners who are rejected for a HAMP modification promptly and with an explanation for the rejection, but homeowners do not have access to an independent appeals process. Treasury allows servicers to offer the HOPE hotline as a dispute resolution mechanism in their rejection letter to homeowners, but this hotline can only contact the servicer and lacks the authority to enforce or monitor compliance with program requirements. Homeowners need access to an independent appeals process to supplement the internal review process within their servicing company.
Even if a homeowner receives a HAMP loan modification and begins making monthly mortgage payments, life events may still occur that would once again disrupt these payments. These uncontrollable, unpredictable events (such as job loss, disability, or the death of a spouse) should not result in foreclosure if a further loan modification would save investors money and preserve homeownership. Some loan servicers already provide modifications upon redefault as part of their loss mitigation program; this approach should be standard and should include continued eligibility for HAMP modifications rather than simply the servicer’s or investor’s proprietary programs, over which there is no oversight or transparency at all.
In addition, although the recently-enacted Dodd-Frank Wall Street Reform and Consumer Protection Act requires Treasury to create a public portal where homeowners can access the NPV model, there is still a lot of work required to give consumers and their representatives adequate information about servicer decision making. For example, when servicers turn down modification requests due to investor limitations, they should be required to provide documentation.
Finally, HAMP was never intended to be the sole solution to the foreclosure crisis. As such, it is important to advocate for solutions beyond HAMP and its associated programs. The following actions would work to complement HAMP efforts, while greatly improving the outlook for mitigating the crisis generally:
Require servicers to consider loss mitigation before foreclosure sales. Policymakers should ensure that only unavoidable foreclosures proceed to sale by requiring that all servicers conduct a loss mitigation analysis before the foreclosure sale takes place. While this standard can be integrated at various points in the foreclosure process, imposing it at the earliest opportunity will help assure a more positive outcome for all parties. Mandatory loss mitigation is a prominent part of the policy conversation at both the state and federal level, and this presents a key opportunity for both levels of government to provide meaningful foreclosure relief.
Hold servicers accountable. Without an enforcement mechanism, any standards imposed by states will remain voluntary. By providing homeowners with a defense to foreclosure in the absence of a good faith loss-mitigation analysis, states can leverage access to the foreclosure process while incurring little or no cost. Policymakers can further ensure that the interests of borrowers and servicers are properly aligned by exercising their authority to license and regulate servicers, imposing a duty of good faith and fair dealing, in addition to other basic protections. States such as New York have begun leveraging their authority over state-licensed servicers to ensure that foreclosure is a last resort. The same approach applied nationally would have tremendous impact, reaching a large proportion of the servicing industry, who benefit from federal preemption through affiliation with national banks.
Don’t tax relief for struggling families. Even principal forgiveness or the most carefully structured loan modifications can be seriously undermined if struggling homeowners must treat the forgiven mortgage debt as taxable income. Legislation was passed in 2007 to solve this tax problem, but it requires updating to ensure that it works as intended. This issue has been flagged as a priority by the IRS’s Office of the National Taxpayer Advocate.
Permit judicial modifications of mortgages on principal residences. Bankruptcy laws currently permit judges to modify loans secured by commercial real estate and yachts, but this relief is denied to families whose most important asset is the home in which they live. Ironically, subprime lenders such as New Century and investment banks like Lehman Brothers have had their obligations modified through bankruptcy. In fact, current law makes a mortgage on a primary residence the only debt that bankruptcy courts are not permitted to modify in Chapter 13 payment plans. It has been estimated that permitting judges to modify mortgages on principal residences, which carries zero cost to the U.S. taxpayer, would help more than a million families stuck in bad loans to keep their homes.
Advocates in the field, such as legal services attorneys and housing counselors, are already doing heroic work to navigate an unwieldy system on behalf of homeowners, substantially improving the odds stacked against successful outcomes. Still, it remains a challenge to close the gap between the demand for homeowners’ assistance and the available resources. In order to level the playing field, Treasury should permit legal services and housing counseling professionals to participate in TARP-funded programs. The involvement of community advocates and leaders in these policy discussions will help ensure that the response meets the experience on the ground. The experience of legal services and housing counselors is one of the most valuable tools we have in the fight against foreclosures.
Even under a best-case scenario, the current crisis will continue if interventions remain on today’s narrow course. To make a real difference in preventing foreclosures and reducing associated losses, we need a multipronged strategy that not only strengthens the way current foreclosure prevention programs are implemented, but also invests in new approaches. Economic cycles and housing bubbles may always be with us, but the experience of recent years vividly shows the value of sensible lending rules and basic consumer protections. It is critically important that policymakers translate the lessons of this crisis into sensible rules to prevent another disaster in the future. Moving these strategies forward requires all of us to continue telling our stories, and reminding policymakers that the foreclosure crisis — caused by unsustainable lending practices — is far from over.