Real Estate Market

Principal Reductions: The Next Solution to the Housing Crisis?

by Nancy Osborne, COO of ERATE®

(01-07-10) Could the unholy alliance of lenders/servicers/investors finally be ready to cry “UNCLE” and seriously begin the process of reducing distressed homeowner's principal mortgage balances in the course of the loan modification process? Things may now be moving in that direction. The phrase “strategic default” has now entered the American lexicon as it has been generally acknowledged by the mortgage modification seeking public that many lenders and servicers will not work with them to reduce their payment until they have actually defaulted on their payment. Worse, it is estimated that somewhere between 25%-30% of homeowners are upside down on their mortgage, meaning their mortgage balance exceeds (and by large amounts in many cases) the value of their home so the homeowner has negative equity in a property which may take years to recover and yet they are expected to continue making monthly payments. What is the incentive to stay and continue to pay? Particularly when the tax incentive to walk-away free from receiving a 1099 for the balance of any lender agreed upon debt forgiveness on a primary residence is set to expire within the next two years.

Washington seems to have recognized the problem but may have consciously elected to pursue a delayed approach to the foreclosure crisis in hopes that property values would not come crashing down all at once but would pose a slower more moderate leak of foreclosures coming onto the market over time. The Obama Administration's Making Home Affordable program launched in the spring of 2009 appears to be falling short of its proposed goal of modifying 3 to 4 million loans by 2012. By mid-December 2009 trial loan modifications for 759,000 loans had been initiated while only 31,000 permanent modifications had been achieved. The payment reduction (or relief) associated with the modifications has been as high as $550 per month for some borrowers. However in far too many cases, the borrowers are re-defaulting again because they lack sufficient income.

Many borrowers who have had their loans modified by their lender, either on a trial or permanent basis, are frustrated and shocked to discover that their credit has been damaged anyway because the lender is reporting to the credit agencies that the borrower's payment has not been “paid as agreed” or that they are making only “partial payments”. This is a slap in the face to many sincere modification seeking homeowners who relied in good faith on the advice of their lenders and servicers who promised that their credit would not be damaged in the course of the loan modification process. With an estimated 15 million homeowners facing negative equity positions in their homes, it appears to some housing experts that this lack of equity has become the primary factor that tips the scale towards payment default and that this may in fact become the more accurate predictor of a borrower defaulting on their payment than even unemployment.

Continued at Mortgage Modification Madness Part II

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Nancy Osborne has had experience in the mortgage business for over 20 years and is a founder of both ERATE, where she is currently the COO and Progressive Capital Funding, where she served as President. She has held real estate licenses in several states and has received both the national Certified Mortgage Consultant and Certified Residential Mortgage Specialist designations. Ms. Osborne is also a primary contributing writer and content developer for ERATE.

"I am addicted to Bloomberg TV" says Nancy.