New Mortgage Relief Plan for Troubled Borrowers

The new plan mortgage relief plan announced recently by the Obama administration could reduce foreclosures by helping borrowers in the following ways:

-Putting in place protections against banks foreclosing on homeowners while they are in the midst of applying for a loan modification

-Temporarily reducing mortgage payments to allow borrowers who’ve lost their jobs and are receiving unemployment benefits to remain in their homes while they are job-hunting. For a period of three to six months, mortgage payments would be reduced to no more than 31% of their monthly income. If they are not re-employed when the temporary assistance period ends, they may be considered for other government-supported alternatives to foreclosure.

-Requiring lenders to consider writing down principal owed on mortgages for homes that are now worth at least 15% less than the original mortgage so that monthly payments would be cut to no more than 31% of the homeowner’s monthly income. By keeping current on their modified payments, borrowers would regain lost equity in their homes, and servicers would receive government incentives to write down principal. Not all underwater borrowers will be eligible, but those who are will be notified by the company that services their mortgage.

-Offering Federal Housing Administration (FHA) refinancing to borrowers who are current on an existing mortgage, even if it was not originally FHA-insured. For the more than 10 million households who owe more than their houses are worth, this could be a substantial break. This option is expected to be offered by lenders in the fall, when all features of the program are expected to have been phased in.

Here’s how a government-supported loan modification plan with a principal write-down would work out for a borrower who’s currently underwater:

-Say a homeowner took out a 30-year fixed mortgage for $250,000 in 2006 at an interest rate of 9%, with a monthly payment of $2,000. Since then, the home’s value has dropped to $180,000 and the borrower’s monthly income has fallen to $4,000. Under the new government-supported modification plan, the lender would reduce the mortgage payment to 31% of the borrower’s income, or about $1,240 per month on a loan at 5.4% interest, giving the borrower a principal reduction of $33,000 over a three-year period as long as monthly payments are made as agreed.

The new programs aimed at stabilizing the housing market have been welcomed by consumer advocacy groups such as the Center for Responsible Lending, which points out that 6.6 million foreclosures have been filed since 2007, with up to 12 million more expected over the next few years, thus lowering home values for everyone. But the voluntary nature of the programs is still a concern because loan servicers failed to respond adequately to previous government efforts to stem foreclosures.

“It’s important to understand that the entire Making Home Affordable program and FHA refinancing system relies on incentives without any mandates,” said CRL President Michael Calhoun. “If the industry fails to respond promptly to this initiative, it will again reinforce the need for stronger action to require loan modifications in order to accelerate this country’s economic recovery.”

For more information, visit www.consumerreports.org.