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Mortgage Modification Program Stumbles Out of the Gate

Despite efforts by the Obama administration to prod lenders to rewrite mortgage terms for delinquent homeowners, the program has gotten off to a slow start, the Treasury Department reported Tuesday.

Some economists say lenders have been reluctant to help struggling borrowers because foreclosure is more lucrative.

The Treasury report said only 9 percent of delinquent borrowers have obtained trial modifications of their loans under the $75 billion Making Homes Affordable program. That translates into aid for only 235,247 home loans that were at least two months behind on their payments. The Obama administration called mortgage executives to Washington last week to prod them to move faster toward a goal of modifying 500,000 loans by Nov. 1.

As the housing crisis continues unabated nationwide, more than one in 10 homeowners are facing mortgage trouble, while nearly one in five borrowers owes more than the house is worth, according to a report from the Center for Responsible Lending.

Meanwhile, the national foreclosure rate is “the highest it has ever been since the Great Depression,” Susan Wachter, a professor of real estate at the Wharton School of the University of Pennsylvania in Philadelphia, told Congress last week. “The considerable response to date by the federal government has not yet worked to stem this crisis.”

Data released last week by RealtyTrac, an online foreclosure listing service, showed that foreclosures in the first half of 2009 rose 15 percent from the same period of 2008, and that in that period one in every 84 U.S. homes received at least one foreclosure filing.

The administration’s plan was meant to cut foreclosures by getting borrowers into payment plans they could afford. It offers servicers $1,000 each time they modify a homeowner’s loan, and an additional $1,000 in each of the next three years if the loan remains in good standing.

Why the plan has sputtered

Several explanations have been offered for the relative lack of activity since President Obama announced the plan Feb. 18.

* Many banks admit they are just now getting up to speed on the program. One major lender, Wells Fargo, did not begin offering some at-risk borrowers loan modifications under the Obama plan until early June. One issue was that mortgage companies were waiting for final federal guidelines on key issues such as how to determine whether a loan modification is preferable to a foreclosure, Mary Coffin, head of loan servicing for Wells Fargo Home Mortgage, told the Wall Street Journal.

* Some economists note that, from the lender’s standpoint, it makes sense to modify only a small slice of the loans now delinquent.

There are two cases where it makes sense not to modify, the National Bureau of Economic Research noted in a report published in June. One is when, through scrimping and saving, the delinquent borrower will eventually pay even if no modification is made. In those cases, there is little incentive for a bank to loosen the terms for repayment, since they will end up getting full repayment of the existing debt.

A second case is when it is likely the borrower will default again, even if the loan is modified—a situation that becomes more likely as the national unemployment rate rises. In these cases, banks will collect less from a modified mortgage for a time, and then have to foreclose anyway.

* Some critics of major banks say that loan servicers make so much money on late fees and default insurance that there’s little economic motivation for them to modify loans. As long as borrowers remain delinquent, mortgage companies extract revenue—fees for insurance, appraisals, title searches and other legal services. Even when a borrower stops paying, banks and other lenders collect fees when homes are ultimately sold in foreclosure.

Incentive to foreclose?

“The rules by which servicers are reimbursed for expenses may provide a perverse incentive to foreclose rather than modify,” concluded a recent paper published by the Federal Reserve Bank of Boston.

“For many subprime servicers, late fees alone constitute a significant fraction of their total income and profit,” Diane E. Thompson, a lawyer for the National Consumer Law Center, said before the Senate Banking Committee last month. “Servicers thus have an incentive to push homeowners into late payments and keep them there: If the loan pays late, the servicer is more likely to profit.”

A Bank of America official disputed that notion. “To think that somehow or other we would jeopardize investor relationships and customer relationships for the very small incremental income we would receive by delaying seems ludicrous,” Robert V. James, Bank of America’s senior vice president for mortgage operations and insurance, told the New York Times last week. “It’s not the right thing to do.”

As Tuesday’s report was released, Michael Barr, the Treasury Department’s assistant secretary for financial institutions, said the lenders “could have ramped up better, faster, more consistently and done a better job serving borrowers and bringing stabilization to the broader mortgage markets and economy. We expect them to do more.”

“We know we’ve fallen short of our customer service goals in some cases,” Mike Heid, co-president of Wells Fargo’s mortgage unit, said in a statement. According to the Treasury report, Wells Fargo has tentatively offered loan modifications to only 6 percent of those eligible. Last month Wells Fargo reported second-quarter revenue of $3.17 billion, up 81 percent from a year earlier.

Bank of America, the nation’s biggest lender, which reported net quarterly income of $3.22 billion last month, has agreed to modify 4 percent of eligible loans.

Citigroup, which like Wells Fargo and Bank of America accepted billions in government bailout funds to stay afloat, has agreed to a tentative modification on 15 percent of the 60-day delinquent loans in its portfolio, the Treasury report said. “We are pleased with our numbers and with what we have been able to accomplish in the past two months,” Citigroup said in a statement. “But we can, and want to, do more.”

A few lenders did better. Saxon Mortgage Services, a subsidiary of Morgan Stanley, led the pack, putting 25 percent of its delinquent loans into trial modifications, followed by Aurora Loan Services, a subsidiary of Lehman Brothers Bank, with 21 percent.

Michael Zielenziger writes about business and the economy. He lives in the San Francisco Bay area.


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