The Mortgage Deal: A Reality Check
The $26 billion deal Thursday reached by the federal government, most states and the nation's largest banks to compensate homeowners for abusive foreclosure practices was hailed as a landmark agreement. But it's unlikely to end the mortgage mess that has depressed property values and left millions of homeowners owing more than their homes are worth, analysts say.
The agreement announced by the Justice Department directs the banks to write down a portion of loans for at-risk borrowers, modify mortgages for others and provide cash payments to some people who have already lost their homes.
NPR asked two experts — Sam Khater, senior economist at CoreLogic, which tracks the housing industry; and Patrick Newport, who covers the housing sector for IHS Global Insight — for their thoughts.
The federal government and 49 state attorneys general reached a $26 billion agreement with the five largest U.S. mortgage servicers over the "robo-signing" of foreclosure documents, and other abuses. The mortgage servicers are Bank of America, JPMorgan Chase, Wells Fargo, Citigroup and Ally Financial.
Under the agreement, mortgage servicers will be required to set aside $20 billion toward financial relief for borrowers.
At least $10 billion will go toward reducing the principal on loans for nearly 1 million borrowers who are either delinquent or at risk of defaulting soon. Those borrowers are also considered "underwater" — they owe more on their mortgages than their homes are worth.
At least $3 billion will go toward refinancing loans for borrowers who are current on their mortgages but are underwater. Borrowers who meet basic criteria will be eligible for the refinancing at current low interest rates.
Up to $7 billion will go toward other forms of relief, including forbearance of principal for unemployed borrowers, short sales and benefits for service members who must sell their home at a loss when they are forced to transfer locations.
The agreement requires the servicers to pay $5 billion in cash to the federal and state governments, and $1.5 billion of that amount will be used to pay up to $2,000 each to about 750,000 borrowers whose homes were sold or taken in foreclosure between Jan. 1, 2008, and Dec. 31, 2011, if they meet certain criteria. A settlement administrator will send claim forms to persons eligible for the cash payments.
Under the deal, mortgage servicers will face penalties if they don't fulfill these obligations within three years, and they must meet 75 percent of their targets within two years. Loans owned by Fannie Mae or Freddie Mac are not covered by the settlement. All but one of the 50 states agreed to the deal. Oklahoma, the lone holdout, announced a separate deal with the five banks.
Is this enough to clear up the mortgage mess?
SHORT ANSWER: No
LONG ANSWER: The $26 billion settlement represents a "drop in the bucket" compared with the approximately $700 billion in negative equity that Americans carry on their homes. "I think it will help somewhat, but the scale of the problem is so large that it won't do that much to help the market," Khater says.
Newport says $20 billion of the total will have a marginally positive effect on the housing market. While the approximately $6 billion going directly to people who've already lost their homes may be a help to them, "this money helps neither the economy nor current homeowners. It's just a transfer of purchasing power from Peter to Paul," Newport says.
Even the remaining $20 billion in refinancing help and help to at-risk homeowners will not kick in for another six to nine months, Newport says. "This timeline diminishes the program's effectiveness, since borrowers in trouble need help today, not in three years," he says.
The bigger impact will come in freeing up the banks to go ahead with foreclosures, which have been scaled back for the year and a half since the "robo-signing" scandal erupted.
The settlement "removes some of the uncertainty and the legal hurdles, and so will begin to flush some of these properties out of the system, and that's the good thing," Khater says.
Aren't all the issues that caused this problem, aggressive loan officers armed with bad documentation and no documentation on mortgages, still going to be a problem?
SHORT ANSWER: Yes, somewhat.
LONG ANSWER: The foreclosure crisis overwhelmed the banks and mortgage servicers who had no experience with the volume of loan defaults they needed to move through the system. Overstretched "loan mitigation" departments couldn't cope. In many cases, they resorted to shoddy practices.
Khater says the banks have now had a year and a half to get things back on track, and "they have been working to make their processes and procedures around foreclosure more appropriate to the letter and spirit of the law."
He says that with the spotlight on the foreclosure procedures of lenders, they will find it a lot harder to get away with poor practices in the future. "A lot of judges have also caught on to this problem and are increasingly saying, 'Show me the note' to a property" before they will even move forward on a foreclosure, Khater says.
Newport agrees. "These five banks are publicly traded companies that have an incentive to fix their processes," he says. "Sleazy practices are bad for your stock price if you happen to be a big bank."
If banks have discretion over which homeowners get a lifeline, won't they naturally help only those that are least troubled, while leaving behind the people most at risk and therefore most in need?
SHORT ANSWER: Yes.
LONG ANSWER: At first blush, it looks like the banks have agreed to commit about $20 billion to various forms of financial relief for borrowers. But the language suggests that help can go either toward those who are delinquent and at imminent risk of default or those who are simply underwater. It seems likely that those who are simply underwater would get the bulk of that relief. That may make good sense from a macroeconomic standpoint, since these are the loans more likely to be "saved," but it's no help to homeowners most desperately in need.
"My current understanding is that the program is targeted towards salvageable loans," Newport says.
Khater says the hard part might be identifying who is in the category of at risk but not necessarily teetering on the edge of foreclosure.
"It's obvious that the ones that are delinquent or seriously delinquent are clearly at risk, but it's harder to figure out the ones that are current but severely upside down," he says.
The banks, he says, have an incentive to target more of borrowers referred to as "dirty currents" — those who are paid up but have a black mark in their past identifying them as a shaky risk, Khater says.
If this frees the bottleneck in the process, won't it open the floodgates to a new round of foreclosures, releasing the so-called shadow inventory and possibly driving down home prices further?
SHORT ANSWER: A qualified yes.
LONG ANSWER: Since the "robo-signing" controversy caught the public's attention in 2010, the flow of foreclosures has declined by a third, as banks became more cautious in their practices. The settlement is likely to release that backlog and send more foreclosures through the pipeline, Khater says.
But the banks have an incentive to make sure they don't simply dump a lot of houses on the market, he says. In any case, "the foreclosure process is a high-touch process, it's not an automated process; it requires quite a bit of manual intervention. So, therefore, they can't ramp up foreclosures that quickly," Khater says.
"The banks also own a lot of properties in these communities, and they are fully aware of the potential impact of dumping properties on the market and the negative feedback loop of lower home prices, so the incentive for them is to move these foreclosures along at a measured pace," he says.
But Newport says lenders could still have difficulty managing the flow of foreclosures and keeping the wider housing market on the level.
"The agreement will help unclog the system," he says, pointing to sharp declines in home prices around the country.
"Yes, lenders will then attempt to manage the flow of homes to keep prices from plummeting," Newport says, "but their success in doing this is mixed."