Federal Housing Finance Agency (FHFA) Director James B. Lockhart unveiled the US government loan modification program to great anticipation. With over 300,000 properties under foreclosure filing according to RealtyTrac, a foreclosure tracking company, the relief can not come quick enough.

Loan modifications are becoming the consensus solution for helping homeowners struggling to stay in their homes--Citigroup, JP Morgan Chase, and Bank of America have all already announced aggressive programs. However, the government version may fall frustratingly short.

The loan modification plan pertains only to Fannie Mae and Freddie Mac, two of the primary government sponsored enterprises (GSE) that fall under FHFA supervision. Admittedly much like the IndyMac Federal Bank loan modification program administered by the FDIC, Director Lockhart briefly referenced drawning on this example.

Director Lockhart described a streamlined modification program that would target "the highest risk borrower who has missed three payments or more, owns and occupies the property as a primary residence, and has not filed for bankruptcy."

The guiding principle of this loan work-out plan would be getting troubled borrowers to an "affordable mortgage payment" and keeping them in their homes. This determination of "affordable" is increasingly becoming universally defined as 38 percent of a household's monthly gross income.

Loan modifications are a change in the borrowers' original mortgage terms to achieve this new "affordable payment." Getting to this new payment typically involves the adjustment of the product (generally to a fixed rate), interest rate, amortization term, and sometimes unpaid principle balance.

Where the new government appears to fall short is simply it failure to address the majority of the problem. A short coming that is directly highlighted in Director Lockhart's announcement: "Fannie Mae and Freddie Mac own or guarantee almost 31 million mortgages, about 58 percent of all single family mortgages. Although these mortgages only represent 20 percent of serious delinquencies."

Felix Salmon, an financial markets and economic writer for Conde Nast, summarizes the shortcomings of this loan modification effort adeptly, highlighting:

  • It only applies to Fannie and Freddie, by definition excluding subprime mortgages
  • Assumes servicers have resources and qualified personnel to work-out the mortgages
  • Requires the borrower to be 90 days delinquent, potential creating incentive to stop paying
  • Places the burden on the homeowner to contact the lender with little incentive to the lender

Meanwhile, on the sidelines you can see the political and bureaucratic battle simmering up as FDIC Chairman Sheila Bair releases her own statement. Largely credited with introducing and continually championing the idea of broad streamlining of the loan modifications, Bair says curtly the plan "is a step in the right direction, but falls short of what is needed."

Chairman Bair continues to lobby her program to address all potential loan modification eligible borrowers by guranteeing and creating incentives for lenders to modify all of the trouble mortgages.

Chairman Bair wants $50 billion of the currently approval $700 billion in TARP funds--of which still only $250 billion has been deployed and none to help homeowners.

Published on November 12, 2008