Finance and Economics Discussion Series Divisions of Research & Statistics and Monetary Affairs Federal Reserve Board, Washington, D.C.
Designing Loan Modifications to Address the Mortgage Crisis and the Making Home Affordable Program
This is a 35 page report. Below are some highlights I found the most interesting or confirming what we see in reality. The report does not raise the negative issues of the servicers like the Congressional Oversight Report did a few weeks ago.
In addition, mortgage servicers have reported a significant dose of moral suasion by the Administration, including public reports on the modification efforts of individual servicers, something that will likely boost the servicer participation rate and the number of modifications offered.
To be eligible for HAMP...The mortgage must be 60 days or more past due, or in foreclosure or bankruptcy, or--if the loan is less than 60 days delinquent-- the mortgage must be judged to be in imminent default.
The HAMP guidelines have been expanded and refined since the program was first announced in February 2009 in order to further address the complexity of the mortgage market and mortgage products, the differing circumstances of distressed homeowners, and whether the loan is in portfolio, a private-label pool, GSE-owned or guaranteed, or FHA-guaranteed. Treasury continues to expand and release additional guidelines as it responds to feedback from servicers, borrowers, housing counselors and other interested parties. For example, HAMP guidelines for second liens were released in August, along with clarifications and revisions to earlier rules. HAMP guidelines for short sales and deed-in-lieu of foreclosure were released in early October.
(NOTE BUT DOESN'T MENTION FEW OR NO PARTICIPANTS IN SECOND LIEN PROGRAM)
If the DTI still is higher than 31 percent, the lender forbears part of the principal at no interest for the life of the loan.20 A servicer may choose to forgive principal but the HAMP does not require this.
Servicers are not required to forbear more than the greater of (a) 30 percent of the unpaid principal balance of the mortgage loan or (b) an amount resulting in a modified, interest-bearing balance that would create a current mark-to-market LTV ratio of less than 100 percent.
( BUT FEW ARE FOREBEARING PROBABLY DUE TO THE 100% LTV ISSUE)
For mortgages that are in private mortgage-backed securities, the modification must satisfy any restrictions on modifications that are specified in the Pooling and Servicing Agreements (PSAs). If it does not, the servicer may ask for a waiver of such restrictions but the investor is not compelled to grant the waiver.
If a waiver is not granted, the servicer may, for non-GSE loans, seek an exception to the standard modification waterfall from Fannie Mae in its capacity as financial agent of the United States. In addition, subject to the PSA, the servicer may offer more generous terms than required by the standard waterfall. For example, servicers may substitute additional principal forbearance in lieu of extending the term of the loan as needed to achieve the target monthly mortgage payment. Non-GSE servicers may also reduce the interest rate below 2 percent or keep it there longer than five years. These actions do not affect the size of the incentive payments to borrower, servicer, or investor.
In all cases, the GSE buys the loan out of the pool, the investor is made whole with respect to the remaining balance on the loan. Under the Treasury’s commitment to maintain a positive net worth for the GSEs, the cost of the modification may ultimately be borne by the taxpayer. Servicers of private-label pools must act in accordance with the results of the net present value test unless investors assent to a modification.
NOTE this has been attacked by conservatives as a huge additional cost to the govenments.
In addition to the modification waterfall and the net present value test, the HAMP includes various other innovative provisions that encourage modification and make the modified loan more sustainable. These include payments to servicers (see below), a program for modifying second liens...
NOTE Someone needs to TELL THE FED, virtually no one is participating in the second lien program!
HAMP includes a voluntary modification program for second liens when the first lien has already been modified in line with the HAMP guidelines. As noted earlier, servicers’ability to modify loans has been adversely affected by the presence of junior liens on mortgages, a not-uncommon characteristic of many mortgages originated during the most recent mortgage boom. The presence of junior liens greatly complicates modifications because holders of first liens generally want servicers to get junior lienholders to agree to resubordinate their liens to the modified first lien. Negotiations with junior lienholders add additional time and expense to the servicer workloads. In addition, because many of the first liens are serviced by big banks that hold the second mortgage, the servicer may face a conflict of interest in how the first lien is modified. The second lien program recognizes these difficulties and provides a modification waterfall for the second lien and payments to extinguish the lien if junior lienholders prefer this second option. By raising the expected rate of return to second lienholders, the program reduces their relative gain from blocking first-lien modifications and thus the perceived threat they present to first lienholders. The industry has also prepared a voluntary program to deal with second liens and is currently working on a data-sharing protocol to inform second lien holders on a timely basis of modifications to the first lien.
Despite greater standardization, uncertainty remains about which borrowers will receive help, as servicers and investors retain some discretion in executing HAMP guidelines. Importantly, servicers on non-GSE loans have discretion to adjust the discount rate in the present value calculations by up to 2½ percentage points from the rate provided for in the basic NPV model—the Freddie Mac rate on 30-year, fixed-rate conforming loans—and may also use a discount rate for portfolio loans that differs from the rate used for loans serviced for a third party investor. Also, large servicers—those with a servicing book exceeding $40 billion—may use default and redefault rates based on their own experience rather than those from the default model embedded in the Treasury NPV model. All servicers retain discretion in assessing whether a borrower appears to be at risk of imminent default, and this assessment figures prominently into the default estimate produced by the Treasury model. In addition, the mortgages being modified are subject to varying PSA agreements with different restrictions. For example, some PSAs prohibit term extensions while others prohibit interest rate reductions, prohibitions that may make a HAMP modification impossible to achieve. Finally, as noted previously, an investor can decide to waive PSA restrictions or to pursue a modification even if it is not the more profitable option. Thus, as the Treasury guidance recognizes, the discretion left to the servicer and the investor, however limited, may produce different modification outcomes for households who have very similar financial circumstances.
In some cases where the program does provide a modification to a household that has experienced job loss, there may be concerns about fairness. In particular, because the size of the reduction in payments depends on current income, it will be more generous than needed when employment resumes. Lenders, investors, and taxpayers will all bear the costs of what is then perhaps an unduly large modification. In general, if financial distress is likely to be temporary, programs that provide mortgage help only during the period of distress would be preferable on equity considerations and could be designed to be at least as effective in avoiding unnecessary foreclosures.
Lenders, investors, and taxpayers will also bear the costs of loans that redefault after receiving a HAMP modification, which highlights another limitation of the HAMP rules for modifications. The loans that are most likely to redefault are those with large amounts of negative equity. Such losses would be mitigated if mortgages with combined LTVs that are well above 100 percent were not eligible for modifications. Of course, some borrowers with negative equity may turn down HAMP modifications, particularly if they recognize that they are so deeply underwater that no reasonable trajectory for house prices will leave them with positive equity in the next few years. While this spares the costs of implementing an unsuccessful modification, it increases the likelihood of foreclosure. The recently introduced incentives for short sales and DIL are meant to mitigate costs in cases where the mortgage cannot be saved, but it remains to be seen how well the new guidelines and incentive payments work.
Conclusion
It is too early to judge how successful HAMP will be. In principle, the program appears to mitigate several obstacles to modifications that we identified in earlier work, including the high cost to mortgage servicers of pursuing modifications rather than foreclosure, legal concerns among servicers, and complications associated with second liens. And, indeed, take-up appears to be substantial, with the Administration meeting its initial goal of having 500,000 trial modifications started by November 1, 2009.
That said, the number of foreclosures prevented by the program will likely be limited by two factors. First, for unemployed homeowners, the required reduction in the payment stream might be so large that the potential modification does not qualify for the program because it would yield a lower return to the mortgage lenders and investors than that obtainable under foreclosure Thus, additional initiatives to address the problems of job losers may be needed. Second, the focus of the program on reducing the payments associated with the mortgage rather than the principal of the mortgage may limit its attractiveness to borrowers whose equity is sufficiently negative that a reasonable trajectory of future home prices is unlikely to put the homeowner “above water” in the foreseeable future. The recent addition to HAMP of streamlined procedures for short sales and “deed in lieu” transactions should help with this shortcoming and reduce the incidence of costly foreclosures, even if it does not keep homeowners in their homes.
Full report at
https://www.hmpadmin.com/portal/index.html