WASHINGTON – The Obama administration on Wednesday detailed its ambitious $275 billion plan to halt soaring foreclosures nationwide, outlining the financial incentives it’s offering investors, lenders and their bill collectors to lure them into modifying distressed mortgages to keep Americans in their homes.
The slump in home prices is the root cause of the global financial meltdown, so the success or failure of the administration’s housing plan is vital to ending the deepening economic recession.
Shortly before financial markets opened, the Treasury Department provided its long-awaited update to the Making Home Affordable program, which the administration thinks can help up to 9 million homeowners.
“It’s a major break with the past because it really takes up a multifaceted approach. It used several different carrots and a stick to come at a comprehensive plan to reduce the number of foreclosures,” said Kathleen Day, a spokeswoman for the advocacy group Center for Responsible Lending in Durham, N.C. “That’s the only way you’re going to stabilize the financial system.”
The plan’s details came out a day before the House of Representatives is expected to pass compromise legislation giving bankruptcy judges power that they now lack to modify the terms of certain mortgages. Bankruptcy changes are the stick to go along with the carrots – new financial incentives for lenders to modify mortgages instead of moving to foreclosure.
The Obama housing plan attacks two problems that are creating a vicious cycle in the nation’s housing market.
First, it offers $200 billion to provide refinancing for some homeowners who owe more than their homes are now worth – shorthanded as being “underwater” on their mortgages. To qualify, these homeowners – 5 million of them by administration estimates – must have their mortgages in the hands of Fannie Mae or Freddie Mac, the mortgage finance giants that the government seized last September.
Many of these homeowners would like to take advantage of today’s historically low interest rates and refinance but can’t, since the law prohibits refinancing if the current mortgages reflects less than 80 percent of the homes’ values. These homeowners now can seek to refinance if their mortgages are up to 5 percent higher than the present-day values of their homes. That helps some, but it won’t reach lots of homeowners in California, Florida and elsewhere whose homes are now worth substantially less than their mortgages.
Because most mortgages are bundled into securities and sold into a secondary market, it’s often difficult for homeowners to find out whether Fannie or Freddie owns their loans or whether they’ve been pooled with other loans and sold by an investment bank to other investors.
The other pillar of Obama’s plan attacks the problem of affordability. The administration provides another $75 billion in incentives to help prevent foreclosures in cases in which the homeowners, up to 4 million of them, are about to lose their homes. The money comes from the $700 billion bailout fund approved last October.
Under this complex portion of the plan, the president offers a stream of financial incentives to mortgage servicers, who are essentially bill collectors for private investors who own pools of U.S. mortgages. Some incentives stay with the servicers while others flow through to investors.
In exchange for the incentives, a servicer would modify a mortgage so that no more than 38 percent of a homeowner’s monthly after-tax income was taken by the monthly mortgage payment. The government then would step in and share the cost of reworking that mortgage so that no more than 31 percent of the borrower’s monthly income was tied up in the payment.
This could result in some mortgages carrying interest rates as low as 2 percent for five years. Critics think that this mortgage subsidy interferes with the natural process of letting the marketplace find the floor on home prices.
“Not only do these gimmicks prevent home prices from falling to the market-clearing levels that would give private lenders the confidence to loan, but the continued specter of subsequent government-mandated modification will keep lenders out of the game,” said Peter Schiff, the president of investment strategist Euro Pacific Capital.
Treasury Secretary Timothy Geithner told lawmakers Wednesday that the administration plan offers “a powerful set of incentives” and “persuasive force and some economic inducements to provide substantial improvements in affordability. With those changes you will be put in an economically viable position and stay in your home.”