Yesterday, a mortgage settlement was announced between Federal and State Governments and 5 major banks. The deal will require lenders to write down the mortgages of certain borrowers who are underwater. Homeowners who owe more than their homes are worth will see a reduction in the principal amount. The hope is this will curb the number of foreclosures and house prices will start increasing again.
The reality is that this deal has great points but a lot of shortcomings.
Main Points of The Deal
A $25 billion settlement between State and Federal Governments and 5 banks. The banks will provide $17 billion in mortgage relief to more than 1 million homeowners. Another $1 billion will go to the Federal Government. And $3 billion more will go to refinancing borrowers into lower-interest rate loans. This will occur during a 3 year period.
The deal will also set strict standards for how mortgage servicers treat distressed home loan borrowers.
One practice that will be restricted is “dual tracking”. It’s where servicers continue with a foreclosure even if the borrower is attempting a loan modification. The settlement won’t ban the practice completely, but it will prevent the banks from completing a foreclosure sale if a loan modification is being attempted.
The 5 banks involved are Bank of America, JP Morgan Chase, Citigroup, Ally Financial, and Wells Fargo. The Obama Administration, the 5 banks, and several State governments worked for over a year to foster the deal.
Who’s Eligible For Aid
To get a mortgage reduction, you have to have been making payments and be on the brink of foreclosure. Being underwater on your loan is not enough to qualify for help.
Another huge gap – only loans under the 5 banks mentioned can be considered. If you have a private lender or a different bank, you’re out of luck.
Loans under Fannie Mae, Freddie Mac, and the Federal Housing Administration likewise do not qualify. Unfortunately, they make up half the nation’s mortgage loans.
Like everything, this deal has it’s good points and bad. Every player involved stands to benefit, but there are several gaps in the settlement.
Benefit to Banks
Pros: The 5 banks will get “credit” for each mortgage writedown they do. They will also get partial relief from future legal claims.
Cons: Discontent borrowers can still sue individually or as part of a class action, so banks are not entirely safe. The relief does not cover future or ongoing lawsuits in the area of securitization. Securitization is where loans are packaged and sold to investors. This was a big reason for the collapse. The settlement also does not prevent criminal investigations.
Benefit to Borrowers
Pros: More than 1 million homeowners will benefit from the mortgage relief. They’ll see their principal go down as banks start to rewrite loan deals. Hundreds of thousands of borrowers will also be eligible for restitution, averaging $1500 to $2000.
Stricter standards will also be set concerning how banks deal with borrowers. Borrowers will be able to have a single point of contact instead of dealing with the bureaucracies of big banks.
Cons: The biggest downside of this part of the deal is that not every homeowner is eligible for a mortgage writedown. Only those that have mortgages with the 5 banks involved will get a reduction.
The biggest gap previously mentioned is overlooking Fannie Mae, Freddie Mac, and the Federal Housing Administration. Loans under these three do not qualify for a writedown. That leaves half of the nation’s mortgages out.
The restitution is only eligible to borrowers that lost their homes to foreclosure from 2008 to the end of 2011. Since banks have held off on completing foreclosures until investigations were over, many borrowers have been in limbo for the past several years. Losing their homes now means it’s too late for collecting restitution.
Another huge gap that is often overlooked – the relief is set to come during a 3 year period. Homeowners may have to continue struggling as they wait for banks to reach out to them.
Benefit to State Governments
Pros: A big boost to state governments is the aid they don’t have to give. With private banks providing relief, state governments can apply their budgets to other endeavors.
The relief could be enough for local housing markets to stop sinking. If enough foreclosures are avoided, states could see more residents coming in as home prices recuperate.
Cons: More than half of the $25 billion will go to only two states – Florida and California. Since those states were hit the hardest with loan delinquencies, they’ll see the most relief. That’s good if you’re living there. But for the other 48 states, there’s less help coming your way.
Benefit to Federal Government
Pros: The Obama Administration can use this as a victory in fixing the housing market. The 1 million homeowners helped is an impressive number on the campaign trail. By touting this as a win for the middle class over big banks, President Obama can sway more popular votes his way this election year.
Cons: While the numbers sound great, the relief comes during a 3 year period. It’s unlikely that many homeowners will get immediate writedowns, so announcing a victory now may be premature.
The Housing Market
Ideally, with more help coming to borrowers, less foreclosures will occur and house prices will stop sinking. $25 billion in aid and 1 million foreclosures avoided is a good start.
But the reality is that borrowers owe $700 billion more on their homes than the homes are worth. So while $25 billion sounds great, it’s unlikely to make a huge dent to the number of underwater loans.
This settlement will end up being the biggest involving a single sector since a deal with the tobacco industry in 1998. It’s a great start to fixing the housing market.
However, the cons are so numerous and great that it’s very unlikely this will cause a housing recovery. There are too many gaps left unfilled and too many borrowers still without help.
The Obama Administration has tried in the past to fix the housing market. So far, nothing has worked. Striking a historically huge deal with big banks seems like a better step in the right direction. But it’s still only a step. The journey to a healthy housing market is a long one.
Until then, the rent market will continue getting stronger.
$700 billion mortgages outstanding