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Obama Administration Opposes Proposed FHFA Principal Paydown Plan

A while back, House Democrats impressed upon the Federal Housing Finance Agency the need for some kind of principal modification program for underwater borrowers. One option proposed by Rep. Zoe Lofgren and the National Association of Consumer Bankruptcy Attorneys was a principal paydown plan. Under it, borrowers would get through a bankruptcy process a temporary elimination of interest on their loans for up to five years, allowing all of their monthly payment to go to paying down principal. After the five-year period, they would be able to roll into a market rate loan. They would give up right of action in exchange for this program, and the new mortgage coming out of the process would have “quiet title,” (basically title ownership would be restored) which are the incentives for the lender.

I wrote about this idea at the time, recognizing it as a trade-off.

Would this help mitigate the foreclosure crisis? Certainly it would increase equity. What’s less clear is whether the interest payments are forgiven or merely deferred. If they’re deferred, it’s like a forbearance, which doesn’t do a whole lot in the long run. If they’re forgiven, it would give underwater borrowers a leg up. But, bankruptcy would have to be declared to get the relief, and that raises a host of additional concerns. And, there’s a trade-off; borrowers who opt for this plan would accept a settlement of all claims against their servicers. So it trades accountability for crimes for the principal paydown relief.

This would perhaps be a better path on a loan modification than a mere interest rate reduction, though there are some unanswered questions.

It does appear that the interest payments would be forgiven, which is positive, but it’s still not a perfect plan, though better than the status quo. I questioned at the time whether Ed DeMarco would go for it. Now, Shahien Nasiripour writes that DeMarco is strongly considering it. But the sticking point is actually the Obama Administration.

Advocates of the proposal argue that the plan does not specifically call for slashing mortgage principal, and that it is targeted only towards underwater homeowners with government-backed mortgages in Chapter 13 bankruptcy proceedings. But the White House said the initiative is not under consideration, angering members of Congress who have tried to get the Obama administration to devote more attention to the slumping property market.

“It would be a major missed opportunity to heal the housing market,” said Zoe Lofgren, a California Democrat. “But it wouldn’t be their only missed opportunity,” she added, in reference to a litany of underwhelming Obama administration efforts that have so far yielded little success.

Ms Lofgren and John Conyers, a Michigan Democrat, met Timothy Geithner, US Treasury secretary, for about an hour on November 18 to discuss the proposal. Mr Geithner said the Treasury department was compiling a “major package of recommendations” to fix the housing market for President Barack Obama, and that the Chapter 13 proposal was among them, according to Ms Lofgren. The Treasury department declined to comment.

“While we continue to talk to the FHFA and other market participants about ways to help borrowers and support the housing market, the administration is not at this time considering this particular idea,” said Amy Brundage, White House spokeswoman.

Let’s just remember this the next time that the White House discusses “doing everything they can” to help homeowners. Recall that the Justice Department and HUD have no problem with the downside to this deal, the extinguishing of claims on servicer abuse and foreclosure fraud. That’s what the proposed, albeit doomed, state AG settlement is all about. But they don’t want to exchange that for something like principal pay-down, which is about as close as you can get to a legitimate write-down solution for the foreclosure crisis. It’s not perfect but so little is these days. And it’s limited to agency-owned mortgages in bankruptcy cases, so it won’t have a tremendous reach. But you’re talking about a plan that lets a borrower in bankruptcy restore equity and get a sustainable mortgage on the home. It’s voluntary on the part of the borrower; if they want to keep the property, this is an option. I’m mildly skeptical of it but not as much as some plan to give “credits” to servicers that make loan modifications, as per the proposed state AG deal. At least in this case, the borrower has the option.

FHFA, incidentally, could just go ahead and implement this; they’re an independent agency. And elements of FHFA have acted independently in the recent past, like in their lawsuit against 17 banks on representation and warranty claims, or in the FHFA IG’s pact with New York Attorney General Eric Schneiderman on sharing documents and depositions. Maybe FHFA will go its own way again.

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David Dayen

David Dayen