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Column: Four ways the foreclosure mess could be used to help homeowners


If you didn't think the gods of financial crises had a sense of humor, consider that the latest economic threat is that foreclosures have largely stopped. What's next? Our (401)ks are looking too full?

Although the potential for chaos in the housing market and on bank balance sheets is rightly feared, there's an opportunity here, too. Foreclosures have paused. There's renewed recognition that the business practices behind the housing bubble were a mixture of insane and fraudulent. The banks will probably need some government help again, even if it's just regulatory forbearance. The market is preparing for the possibility of new policies - and we should have some, but not just for the banks. For the homeowners, too.

Our response to the financial crisis had three parts: The bank and auto bailouts, the stimulus, and the efforts to help homeowners facing foreclosure. The bailouts worked pretty well. The stimulus was much too small, but at least did what it said it was going to do. The help for homeowners, however, has been a disaster.

Blame the Home Affordable Modification Program. It's a voluntary program in which participating mortgage servicers can renegotiate terms with struggling homeowners, give them three months at a trial rate, and then, in return for some federal money, make the new terms permanent.

Most of the homeowners who were eligible for the program were never told of it. Many of those who did enroll were bounced out after the three-month trial. Others have been left in limbo for months. Most of the program's money hasn't even been spent.

Meanwhile, we're on track to see a record number of foreclosures this year, and then we're predicted to set another record in 2011.

We can do better. Here are four ideas kicking around the community of experts who follow the housing market.

1) Repair HAMP: The problem with HAMP is that it leaves mortgage modifications up to the banks, and they're not much interested in modifying those mortgages. The Center for American Progress wants to see that turned around: They'd have the Treasury Department empower housing counselors to modify the mortgages (modification works through a standard formula), and banks would have three months in which to challenge the new terms. Given the banks' evident facility with paperwork, this seems like nothing less than common sense.

2) Cramdown: The original theory of HAMP was that it would be the carrot - it's a voluntary program with a government payout - but there'd also be a stick. That stick was cramdown, or mortgage modification. "You can trace a lot of HAMP's problems back to the failure of cramdown," says Pat Garofalo of the Center for American Progress.

"Cramdown" was shorthand for empowering bankruptcy judges to modify the principal on mortgages. "If Lehman Brothers goes into bankruptcy," says Julia Gordon, senior policy counsel at the Center for Responsible Lending, "all their debt can be restructured. No one says we can do it all but the single most important thing."

But that's effectively what the bankruptcy process says to homeowners, and it means that banks have little incentive to work toward a voluntary agreement with them. Cramdown would make sense on its own terms and encourage banks to participate in HAMP.

3) Mandatory mediation: The lesson of the foreclosure mess is that the banks really aren't paying attention to the mortgage paperwork. But they're supposed to. In fact, there's a whole section in the mortgage rules about the advice and attention they're supposed to be giving distressed homeowners.

A mandatory mediation program would force them to sit down with homeowners, look through the papers, consider the specifics of the situation, and in the presence of housing counselors or even a judge, make a good-faith effort to figure out a way forward. A program along these lines has been extremely successful in Philadelphia.

4) Right-to-rent: Under a right-to-rent program, foreclosed homeowners would have the option of renting their home at fair-market value for five years. This means less disruption for them and fewer vacant properties blighting communities. Fannie Mae has been attempting a variant of this, but on a very small scale.

We should expand the program, particularly in areas where the housing market is extremely depressed. "It's got to be better than just throwing people out onto the street," says Dean Baker, the director of the Center for Economic and Policy Research. "The bank would be getting rent. They could sell the property, though it might have a tenant for five years. But given the situation these people are in, it's a bare minimum the government could do."

Photo credit: David Zalubowski-AP.

By Ezra Klein  | October 15, 2010; 10:30 AM ET
Categories:  Articles, Housing Crisis  
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How about a column with the following name?

One trillion ways the mythical foreclosure mess could be used to further enrich bankers.

Posted by: lauren2010 | October 15, 2010 10:42 AM | Report abuse

But can we convince the homeowners to come to the table, now that they appear to suddenly be holding more of the cards?

Posted by: TheodoreLittleton | October 15, 2010 10:54 AM | Report abuse

Some variation of cramdown is the only solution that makes sense for individuals trapped in mortgages that are deep underwater. Businesses walk away from debt in bankruptcy all the time. There's no reason to deny homeowners the same relief.

Banks would lose no more money than they do now. Currently they recognize their loss by foreclosing and then selling to new buyers at market price (less the cost of processing the foreclosure, holding a non-performing loan for many months, selling commissions, repairs, back taxes, etc.).

In a cramdown world, the banks take the loss in a simple court procedure. Given the choice of an equal financial loss for the bank via cramdown or foreclosure, almost everyone would be better off letting the existing homeowner stay in the home with a market priced mortgage.

To those who think this gives defaulting homeowners a free ride, the hit to your credit rating from a bankruptcy is not trivial. Nobody is going to go this route unless they have to.

Posted by: dave89 | October 15, 2010 11:08 AM | Report abuse

Suppose a lender has a mortgage for $250,000 on a house that might be revalued today at $150,000, but if sold with no occupant, possibly neglected by the borrowers who have for months expected to lose it -- it is just a matter of time -- if sold with that and other disadvantages of a foreclosure sale, might be expected to bring $100,000 - $120,000. Am I drawing a plausible scenario or not?

Now, why should the lender prefer the foreclosure to the revaluation, even in cases where the borrower would be a good prospect if given todays valuation on the house, and a decent interest rate?

Perhaps the key is what's being revealed in this latest "foreclosure mess". The entity doing the foreclosure doesn't own the house. They acting as an agent for sometimes they-know-not-who.

What's in it for them? I can only guess at what seems the most plausible thing -- a commission on the foreclosure sale taken off the top from the sale procedes. Later on, the remaining money can find its way back to the mystery loan owner.

That sounds like cash up front for the front organization which is rushing to do foreclosures at a pace that they couldn't attain if they followed all the rules.

Am I onto something?

Posted by: HalMorris | October 15, 2010 11:13 AM | Report abuse

I should have bought a house I couldn't afford. You live, you learn.

Posted by: bigless55 | October 15, 2010 11:30 AM | Report abuse

@dave89 - Completely agree. Two additional points:

1. Cram down reduces the amount of loan principal to the current value of the asset (in this case, the house). If the mortgage holder still can't afford that, then they still get foreclosed on. It's not an automatic "get to keep your house" provision, especially for people who have lost their jobs.

2. Cramdown is currently the law for all other assets including second homes, cars, boats, etc. Only primary residences are treated differently. There's a good argument to be made for treating all assets identically in bankruptcy. Also, this would encourage more accurate real estate assessments during the initial mortgage process.

The main reason that the administration has opposed cram down, as far as I can tell is their "extend and pretend" strategy for allowing the banks to not recognize their real estate losses in hopes that in time the economy will improve and with it, asset prices in general. The problem with this approach is everyone is still focused on the past activities and avoiding acknowledging those losses, rather than finding new ways to invest productively in the future.

See Steve Pearlstein on commercial real estate which has the same problem:

Posted by: jnc4p | October 15, 2010 11:41 AM | Report abuse

Indict, convict, imprison. Fraud is fraud, and every single lawyer, servicer, and bank that has submitted fraudulent documents to the courts really needs to do some time. personal responsibility, and all that.

If JP Morgan and Goldman Sachs go down the tubes, and thousands of bankster scum do some jail time in Minimum Security Facilities we, as a Nation, will be better off for it.

Sign Grayson's petition, time for the banksters to lawyer up.

Posted by: johninflorida | October 15, 2010 11:42 AM | Report abuse

Ezra, dave89 and others:

Both businessess and individuals walk away from debt all the time. But neither business nor individuals walk away from SECURED debt without losing the property that the lender had a security interest in. If Lehman goes bankrupt, unsecured creditors may get wiped out, but secured creditors (i.e. lienholders on real property) do not. They get the real property, just like the banks do with individual mortgages.

As for the fraud that has been perpetrated on homeowners, I think it was someone in the white house who just admitted that on the current issue they are unaware of a SINGLE CASE of someone being foreclosed on due to bad documents (i.e. when they should not have been foreclosed on). If John Doe borrows $1mm to buy a house, but the lender forgets to sign one of the fifty documents in the loan packet, that doesn't mean John Doe should get off scott free on his mortgage.

The "fraud" in this case is that the banks then securitized those morgages, and made warranties and representations that all the paperwork was complete. So the buyers of the securities were defrauded, NOT the homeowners.

Posted by: WEW72 | October 15, 2010 12:09 PM | Report abuse

"As for the fraud that has been perpetrated on homeowners, I think it was someone in the white house who just admitted that on the current issue they are unaware of a SINGLE CASE of someone being foreclosed on due to bad documents"

they should read more newspapers published in Florida. or Nevada. or California. sticking your head in the sand is no way to run a government.

Posted by: johninflorida | October 15, 2010 12:12 PM | Report abuse

Good column, and well-timed. It does seem as if the documentation scandal suddenly gives banks an incredibly strong incentive to avoid foreclosure: if you foreclose you have to go to court & risk having a judge rule that you bollixed the paperwork & have no claim to the claim to the property. The mortgage you're carrying on your books as an asset has now officially been deemed unsecured & pretty much worthless; all the securities you've issued against it can be called into question; you're risking a whole portfolio of securities in order to pursue foreclosure. Now if the government (presumably FHA) could step in and say, "don't foreclose on the mortgage, agree to restructure it (or let us buy it from you at a discount & we'll restructure it). If you restructure, you can use the process to fill in the paper trail & you'll end up with a mortgage that may be worth less than its current face value, but it'll still be worth something. Or sell it to us cheap, take the one-time write-down, and don't worry about it again. Either way, you'll take a haircut, but you won't have to roll the dice in court. And either way, we can keep more people in their homes, prevent fire sales on foreclosed properties that would otherwise drive down the real estate market, and reduce the debt overhang & unaffordable mortgages that are holding back so many people's spending in the short term & blowing a hole in their net worth over the long term." (I don't think that having FHA simply buy up distressed mortgages at a discount as a way to get them into restructuring is part of HAMP, but think it should be. I'd put that alongside cramdown as a key ingredient that's been missing for too long.)

But that opportunity only exists for as long as there's high uncertainty about what the courts are going to do in response to the documentation problems. That's the main reason i think we should consider some sort of moratorium on foreclosures: because it heightens the uncertainty & puts banks under pressure to accept more modifications or discounted sales to the FHA - quickly, before an appellate court someplace can let them off the hook!

Posted by: tomwoods | October 15, 2010 12:14 PM | Report abuse

Michelle and Barack Obama themselves have fallen victim to mortgage fraud:

Posted by: johninflorida | October 15, 2010 12:16 PM | Report abuse

The "homeowner" part of the failure was a reliance on logic that said every seller would be a winner - forever. That drove two things - more expensive home building and higher pricing of existing homes going on the market. The rate of rise in the latter years before the "crash" of 2007 was phenomenal, but the signs of impending disaster were written by the mid-1980s. For example, a small (~1500 sq. ft.) Dutch colonial in West Newton, MA sold for $82.5 k in 1980. By 2005, the assessed value was near $300 k in a "fiery" market.

Did it strike no one else during that time that a 275% increase on investment over 25 years had to incorporate some false economies? I rather doubt it. Buyers might have taken some caution just from the trends that held some extraordinarily optimistic assumptions. I brought up my concerns with friends and coworkers, but it didn't seem to have much effect.

Thee kind of overvaluation that occurs in bubble economies cannot be easily reabsorbed. Homeowners and communities have borne the brunt of the monetary readjustment. But homeowners were not alone in fanning the flames of that debacle. Realty agents and brokers, as well as lenders and investment bankers and securities traders, did all they could to make maximum profit in the real estate marketplace. Yet these latter participants have paid little by way of penalty. Instead, the investment banks and large lenders have been taking personal bonuses and pressing the foreclosure actions against faltering homeowners.

Not all of those homeowners are fully to blame. Most were assured, as every home buyer is, to look to the future when income will certainly be greater and facilitate payment of ballooning mortgages. (These premised on other unsustainable trends which I shouldn't have to recount.) If economic "rules" intend to balance gains and costs among participants in an economic system, then the brokers and lenders and bankers should have shouldered a more significant portion of the losses in the actual real estate market. As it is, the investment banks cared more about unburdening themselves of the toxic instruments purportedly representing the value of the housing and commercial realty markets. That was not, by far, enough.

Posted by: Jazzman7 | October 15, 2010 12:33 PM | Report abuse

Oh the evil banks, they 'bounce' homeowners from trial modifications only after a few months!! Oh the humanity of it all. Do you realize why the cure rate on HAMP loans is so poor? Because these households are so loaded down with all sorts of revolving and nonrevolving debt, that even excusing half of their mortgage payment is not going to change the fact that they cannot afford the house.

Read this:

Posted by: novalifter | October 15, 2010 2:26 PM | Report abuse

Just ask the Rappin' Foreclosure Mom! I think this really shows the level of frustration in the country at this point. When Moms start rappin' about somethin', you know it's bad.

Posted by: jerentropic | October 15, 2010 2:47 PM | Report abuse

Ezra, why hasn't Congress or the Obama administration proposed something like the Home Owners Loan Corporation that bailed out millions of homeowners during the 1930s?

Posted by: puakev | October 15, 2010 2:53 PM | Report abuse

@WEW72, I don't know what the White House believes about banks defrauding homeowners, but I just saw an interview on TV three weeks ago with a guy who bought a small home, free-and-clear, paid cash 100% -- no mortgage on it at all. And Bank of America showed up and tried to foreclose on it, claiming there was a mortgage in his name -- which there wasn't. The seller was above reproach, too. He owned the house free-and-clear when he sold it. I'm sure if you Google around a bit you'll find the story.

It's just one situation, but it's the most egregious example I've seen. If it gets so bad that banks are trying to evict people who don't even have mortgages on their homes, imagine the opportunities they have to screw people who actually do have mortgages.

Posted by: Rick00 | October 15, 2010 4:27 PM | Report abuse

@WEW72 - to follow up on a few of the other commentators, there have been a number of visible cases of homeowners being foreclosed on in spite of being current on their loans or not holding a mortgage. Felix Salmon had a good roundup a little while back, so you can check his blog for more.

But in a larger sense, I agree with you. First mortgage debt is secured, which has some enormous protections of it's own, even if homeowners are loathe to use it. It's a put-option - you can walk away from the secured asset if it declines in value, which leaves the bank holding the downside risk.

Sure, your credit would take a hit, but it would also take a hit in a bankruptcy/cramdown. That might be good for the system as a whole, but not necessarily for individual homeowners, many who might be better off relocating to better climates than staying with even a restructured debt.

Systemically, that's still bad. Lot's more foreclosures. But that's what makes the housing problem such a headache - anything that helps one player seems to hurt four others. I've yet to see a good answer for solving it.

Posted by: strawman | October 15, 2010 5:04 PM | Report abuse

Anyone who thinks banks want to foreclose is a certified moron. Taking possession of a house which will cost 10%-15% of the value to market, on average, and sell in this down market, where they can't give houses away, is not a way to make money. Neither, though, is giving people an interest-free loan, where the bank assumes all the risks of a mortgagee, without any benefit. Of course they are trying to help, but the government set the underwriting standards for HAMP, not the banks, and it is not their fault if people cannot meet those standards.

At least, for the love of God, can we agree to distinguish between mortgagors who have been affected by the economy, and may have lost their job, and those who simply lied about their income and took on a bigger monthly payment than they could ever truly afford, or took out an equity line of credit and maxed out the credit card? Many of us are amenable to helping someone who has been stricken by forces beyond their control, but are enraged when you give a free pass to those who acted fraudulently, or stupidly, or both - and who also bear much of the blame for the housing collapse, though the political class rarely says so.

Posted by: INTJ | October 15, 2010 11:47 PM | Report abuse

I had not realized - hadn't thought about - the difference between what a company can do in bankruptcy and what an individual can do when facing a foreclosure.

A company (the example was Lehman Brothers)can "restructure" debt - they get to pay so many cents on the dollar. An individual who is loosing his/her home simply looses the home.

Cramdown makes enourmous sense in view of this. It simply levels the playing field between business and consumers.

One of the things that would happen if there were a level playing field is that banks would be much more careful about who they give loans to. Housing loans may cost more, but it would be safer for the consumer and the banks and the entire economy.

One of the things that I think would help avoid a future housing debacle like we have been living through is jail time for fraudsters, like those who appraised houses far above their worth, those who gave loans to people they knew could not repay them, etc. We need to restore the idea that truth is important and is a two way street. It is appalling to me that Mazoli got off with a fine - I don't care how many millions he and Bank of America are paying.

Posted by: amelia45 | October 16, 2010 11:32 AM | Report abuse

Ezra, because politics and not finance is your specialty, you're missing one small . . . well really HUGE point. All of the institutions that own these loans carry them at x value on their books. Everything you are proposing changes the value to some unknown x - y value. This changes each bank's capital requirements under the law. It also changes the value of many of the securities that Treasury holds. Even as excellent an economic forecaster as Christina Romer (do you like that one?) would have no idea what, especially the cramdown, would do to the economy.

We aren't even going to BEGIN the discussion of how changing owners to renters changes all the laws that apply to the people living in the houses, state by state, sometimes city by city, for national and sometimes multinational corporations. It sounds like a lawyer stimulus act at the least!

Posted by: 54465446 | October 16, 2010 11:59 AM | Report abuse

WEWZ wrote:

"The "fraud" in this case is that the banks then securitized those morgages, and made warranties and representations that all the paperwork was complete. So the buyers of the securities were defrauded, NOT the homeowners."

How did YOU get in this thread? Knowledge of business and finance is NOT allowed here mister. You are hereby given a match penalty and banned from future postings!

Posted by: 54465446 | October 16, 2010 12:07 PM | Report abuse


This is why you buy title insurance, although the cost of that is going to skyrocket soon you can be sure.

Posted by: 54465446 | October 16, 2010 12:14 PM | Report abuse

amelia45 wrote:

"One of the things that would happen if there were a level playing field is that banks would be much more careful about who they give loans to. Housing loans may cost more, but it would be safer for the consumer and the banks and the entire economy."

I'm afraid you don't understand. The banks that hold the loans today are seldom the originators of the loan. They are long gone.

Posted by: 54465446 | October 16, 2010 12:21 PM | Report abuse

Wouldn't having the Feds offer to refinance at least the current mortgages through something like the Home Owners Loan Corporation at today's record low rates (or even slightly subsidized, lower rates) have two positive effects:

1. By paying off the existing mortgage, any title defects would be extinguished, and

2. The massive reduction in mortgage payments would put cash into peoples' pockets.

Posted by: Jamesaust | October 16, 2010 6:06 PM | Report abuse

jamesaust wrote:

"1. By paying off the existing mortgage, any title defects would be extinguished, and

2. The massive reduction in mortgage payments would put cash into peoples' pockets."

The proper person who owns the mortgage and gets the money paid off is at the heart of the dispute.

The massive reduction in mortgage payments means SOMEBODY had to take a massive loss. Who should that be, the Fed or the banks?

Posted by: 54465446 | October 16, 2010 6:36 PM | Report abuse

Hey Ezra,

As much as I appreciate you taking a break from pushing the Democrat's political commercials as narrative, would it kill you to come up with any solutions to anything that don't involve people being told by their alleged "betters" in government and academia how to run their lives?

How about this: we let people who got into mortgages they can't afford to be foreclosed on. People like me, who live in less house than they could really afford, buy these foreclosures at pennies on the dollar. We then rent to the wave of irresponsible individuals who cannot now get a mortgage (you know, because they don't pay their debts even when it means losing their house). Home values rise due to their value as rental properties. The renters, in 7 years, have good credit again, just in time to buy the house from me at a reasonable price. I make money, the risk is allocated to those who are able and willing to bear it, and the government's only function is to stay the hell out of the way.

Or we can dump $1 trillion+ into doing things your way, and put the country into even more debt while prolonging the pain of this market correction.

Central planning has never worked at any time, in any economy, in any place on earth. Stop trying, and get out of the way.

Posted by: devildog_jim | October 18, 2010 1:53 PM | Report abuse

How about hold Wells Fargo accountable for making fraudulent mortgage loan and stealing home through wrongfully forecloure?

How can our society even begin to recover if banks like Wells Fargo is stilling spending millions and millions of dollars defending its mortgage fraud in the Courts?

Letter to Wells Fargo Spokeswpman Vickee Adams,

Dear Ms. Vickee Adams,

In your recent Wells Fargo's press release, you declared that ""Our records show that Wells Fargo's foreclosure affidavits are accurate, When the company finds employees that don't follow procedure, it takes "corrective action."

That's a lie. I can say for a fact that Wells Fargo made us fraudulent mortgage loan and foreclosed my home based on hugely inflated and fraudulent appraisal and refused to correct its mortgage fraud.

Wells Fargo teamed up with its attorneys and spent last 4 years in Nevada courts
defending its appraisal and mortgage fraud.
Wells Fargo and its attorneys knew it’s Category C Felony to make mortgage loan based on fraudulent appraisal.

Wells Fargo and its attorneys knew it’s Category C Felony to foreclose home based on fraudulent appraisal.

Wells Fargo chose to violate the law and chose to defraud us.

Hold Wells Fargo Accountable! Save American Dream! Restore banking integrity.

Please sign the Petition at Let our voice be heard!

Posted by: WellsFargoFraudVictim | October 18, 2010 5:30 PM | Report abuse

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