Judges should have say in mortgage modifications
Perspective: Bankers' big win is borrowers' major loss
By Marcie Geffner, Thursday, May 1, 2008.Bookmarking Sites
Marcie GeffnerThe Mortgage Bankers Association recently fought off federal legislation that would have allowed bankruptcy judges to modify residential mortgages. The MBA's victory was a huge success for lenders, but an unfortunate loss for homeowners who have declared bankruptcy.
Lenders had good reason to dislike the proposal, which would have shifted some of the power over mortgages from lenders' loss-mitigation departments to bankruptcy judges, who might have imposed modifications that the lenders wouldn't have liked.
The risk was deemed so serious that the MBA pulled out all the stops to pound the idea into dust. Lawmakers were lobbied, members were mobilized, press releases were issued, and the MBA's Web site featured a "Stop The Bankruptcy Cram Down Resource Center" chockfull of inflammatory verbiage, out-of-context snippets and specious arguments.
Consider "cram down," a bit of MBA-speak that refers to a judicial cut in the interest rate on a borrower's existing loan. The term may be new to some, but in fact dates back to the last real estate downturn. The phrase naturally evokes emotionally charged images of gagging, choking and force-feeding, none of which is relevant to a serious discussion of bankruptcy relief.
Consider also the MBA's claims that mortgage interest rates would rise by as much as 2 percentage points and that lenders would be forced to require bigger down payments and charge higher closing costs if bankruptcy judges had a say. No factual evidence was offered to support these arguments.
In fact, a causal connection between the so-called "cram down" and significantly higher interest rates is a stretch at best, according to an academic paper by Adam J. Levitin, a law professor at Georgetown University. The paper stated that even unlimited loan modifications in bankruptcy courts would have only an insignificant, if any, impact on mortgage interest rates or mortgage markets.
Of course, the MBA also had a promised presidential veto in its pocket and the support of Alphonso Jackson, the now-former secretary of the U.S. Department of Housing and Urban Development. In a speech, Jackson called the proposal "an odd, time-consuming, distant way to help homeowners," and said, seeming with no evidence other than the MBA's say-so, that it would increase interest rates and -- horror of horrors -- benefit lawyers and law firms.
The MBA has supported other measures such as pre-foreclosure counseling, the use of mortgage revenue bonds to refinance subprime loans, and the strictly voluntary Hope Now loan workout program. These measures may be worthwhile, but the cost to lenders is minimal and so far, the results have been modest.
Not surprisingly, consumer groups support an expansion of bankruptcy judges' jurisdiction to encompass residential mortgages. AARP, the AFL-CIO, ACORN and the Center for Responsible Lending are among the groups in favor of this proposal. These groups believe the federal government should put more pressure on lenders to help homeowners who are in danger of foreclosure, and a Congressional Budget Office report said lenders might have more incentive to modify loans if bankruptcy judges had the power to impose such concessions.
The MBA deserves plenty of credit and kudos for the success of its "Stop the Cram Down" effort. The group did exactly what such groups are supposed to do, which is to protect the interests of their own members -- no matter how narrow or parochial those interests may be.
But at the end of the day, the win on this one should have gone to the homeowners.
Bankruptcy isn't pretty, and recent changes to the U.S. bankruptcy code have already made the process more onerous. Yet bankruptcy serves a legitimate and important public policy purpose, which is to give people in dire straits a fair and reasonable way out of their extremities. Bankruptcy shouldn't be just another form of Dickensian debtors' prison. It should offer real relief and an opportunity for folks who've experienced hard times to get a fresh start.
As the law stands today, home-loan lenders are a favored class of creditor in the bankruptcy system. In fact, residential owner-occupant mortgages are perhaps the only type of debt that bankruptcy judges aren't allowed to modify. Judges can alter loans backed by cars, boats, farms, manufacturing plants, mobile homes, vacation homes and investment properties.
Of course, there should be limits to bankruptcy judges' power, and the proposed legislation contained plenty of them, perhaps even too many. Relief would have been offered only to homeowners who faced imminent foreclosure, who had a subprime or nontraditional loan such as an interest-only or payment-option adjustable-rate mortgage, and whose income wasn't sufficient for them to afford their mortgage payments. Bankruptcy judges would be required to set commercially reasonable interest rates on modified mortgages and wouldn't have been allowed to reduce loan balances to less than the home's market value.
Homeowners who've been forced into bankruptcy deserve a chance to keep their homes if they can afford to make reasonable mortgage payments, and bankruptcy judges are in a good position to make that call.
Marcie Geffner is a freelance real estate reporter in Los Angeles.
Copyright 2008 Marcie Geffner. All rights reserved. No part of this article may be used or reproduced in any manner whatsoever without written permission of the author.
***
What's your opinion? Leave your comments below or send a letter to the editor. To contact the writer, click the byline at the top of the story.
All rights reserved. This article may not be used or reproduced in any manner whatsoever, in part or in whole, without written permission of Inman News. Use of this article without permission is a violation of federal copyright law.
Add A Comment
You must login or register to post a comment.
Submitted by FRED CARACH on May 1, 2008 - 5:48am.
As an appraiser I have no love of mortgage brokers. But I think they are correct about the consequences of "cram downs". Mortgage capital is drying up all over the country. Just ask yourself how eager would you be today to lend money at 6% for 30 years. Historicly people have been willing to accept such low rates only because they believed that you couldn't lose money in real estate. They now know different. If judges are given the power to reset the terms of mortgages in bankruptcy proceeding a vast new risk is being imposed on lenders. They will respond by making 6% mortgages unobtainable for all but the most credit worthy. Much has been made about the fact that credit card lenders have no problems with "cram downs". This ignores the fact that they lend their money at rates up to 22%-24%. Do you think they would be willing to extend crdit at 6%?
Submitted by Brecht Palombo on May 1, 2008 - 6:33am.
I disagree that debtors should have won this one. At a time like this it is essential that lenders keep on lending. Forced loan modifications would not be good for the economy, the buying public, home sellers, or any of us not going bankrupt. Too much intervention would essentially pull the e-brake on an already skidding economy. Most people who are being foreclosed on or going bankrupt are doing so because of their own missteps, contrary to what much of the media would have you believe. There are many, many people who are going to have to suffer through some difficult circumstances before we get to the other side of this crisis. This is unfortunate but it is necessary to properly recover. Too much intervention will prolong this pain and indeed cause more of it by further constricting mortgage lending. This was a bad idea and rightfully defeated.
Brecht Palombo
Auctioneer
Investment Sales
Broker MA, CT, NH
http://www.provestre.com
http://www.tranzonap.com
Submitted by chis eliopoulos on May 1, 2008 - 7:11am.
Lobbying the root of all evil.
Lenders are protected from practically everything at the tax payers cost
They exercised NO diligence during during "good"times yet when every body faces the consequences of their decisions during "bad" times lenders all ways come on top by gaining any protection there is.
This is ridicules, the whole structure is elapsing yet every effort is made to protect one component of it.
Lenders and their irresponsible lending practices are a major contributor to the market condition today.By lending to every one, created all that demand that inflated prices and created that bubble that now is bust and yet are still protected.
The tax payers will again (like in the 90s) foot the tab to bell them out,the politicians are protecting them thus they walk free, to create the same situation in years to come.
It is my opinion that 80% of the problems this country has, will disappear INSTANTLY when lobbying gets outlawed.It has become the MOST CRIMINAL activity by the people in power against the People who continusly pays for everyones mistakes and greed.
Submitted by Roberta Murphy on May 1, 2008 - 8:20am.
If lenders would quickly pre-negotiate their short sales prior to listing (or when lender-borrower loan modifications fail), these problem loans would be less likely to end up in foreclosure or in the bankruptcy courts.
Submitted by John Davison on May 1, 2008 - 9:19am.
Marcie is missing the point here. Regardless of why this legislation was defeated, it is a good thing that it was not approved. Imagine if lenders were distributing loans based on a 6% return on their investment, only to find that a bankruptcy judge now converted that into a 3% or 4% interest rate. Now, imagine the same for you (Marcie) as an investor. You give your money to a bank or investment company that guarantees a 6% return on that investment. Unfortunately, in the interim, the interest rate is reduced and your ROI is negatively affected. The lenders are in the same boat with this proposed legislation. The comments made by Fred and Brecht are dead on. Let's stop with this bleeding heart liberal nonsense and get to the heart of the matter. There were a lot of greedy people who both generated loans or accepted the terms of the loans to either make a buck or get into a house they probably really couldn't afford. Now we are faced with the painful healing process, via foreclosures and write-downs. Oh well, that's life. The wound simply needs to heal in time. These attempts at intervention are just as detrimental to the healing process as the irresponsible lending and borrowing that caused the problem in the first place.
P.S. - Roberta is right abouth short sales. If the banks would do their BPO's up front and establish, what they consider, a fair asking price and reasonable commissions, we wouldn't be watching so many people go into foreclosure. The guessing game of pricing a short sale home is not based upon market value or Realtor knowledge. It is solely determined by the bank and their professionals. If that is the case, why then doesn't the bank contribute their input and establish the asking price when the house is initially being listed for sale. It seems illogical to play guessing games in trying to establish an asking price, or sit back and wait for an offer to come to determine the bank's appetite for that price, all the while the clock ticks on the homeowners as they move closer to foreclosure. Just cut the crap and let the bank establish the asking price up front.
Submitted by Jim Doak on May 1, 2008 - 9:52am.
Since when is home ownership a god given “right” in this country? The mortgage crisis that was caused by the lending industry’s attempt to make loans available to everybody (even with horrific credit scores and no income), is proof positive of that there will (and should) always be a certain percentage of the American population that will not be owners of Real Estate
The fact is, for the greater part of 2004 through 2nd quarter of 2007, lenders became very haphazard in their lending practices and made a lot of risky loans that they would have never made even just 5 to 10 years ago. In the end, lenders loaned a lot of money to a lot of people who should have never qualified for a home loan to begin with. Conversely, there were a lot of borrowers out there who took the gamble as well. And guess what; in the end, some people lost that bet.
Don’t make this out to be more than it is. Simply put, some people gambled and some people lost. What I don’t understand is why these losers, who were mostly high risk from the beginning, should somehow get legal protection from their private contracts just because “they didn’t understand the risk”
Really? Are you are actually proposing that stupid deadbeats that can’t read loan contracts should now be rescued by the government and our legal system?
And what do you mean “No factual evidence was offered to support the argument…that interest rates would rise if bankruptcy judges were allowed to restructure loans and reduce principle loan balances” ?
Who do you think would pay for those loses incurred by the mortgage companies as a result of the waiving of the “cram-down wand” by bankruptcy judges? What do you think is going to happen to interest rates if, poof, overnight, mortgage contract terms were no longer enforceable?
Do you think money is just magically going to fall out of the sky to cover the additional risk for these lenders?
No. As always, it would be the 99% of the hardworking, responsible, American population that would pick up the tab.
Which brings me to my point, why are you trying to sell this Kool-aid? I understand why some politicians may want to spin this proposed legislation as some sort of “vote for me, I can save everyone” campaign. But why do you support legislation that would steal money (and the opportunity of home ownership) from the majority of honest, hardworking Americans, and give it to a handful of 500-credit score losers with a sense of unearned entitlement?
Here’s a thought. Pick up a history book, take an economics class, and think about how the constitution gives us rights AND responsibilities.
Jim Doak
Real Estate Broker
Submitted by Marcie Geffner on May 1, 2008 - 2:01pm.
Thank you all for your comments.
All of your points are quite valid, but overlook a few facts: Mortgages that land in bankruptcy court are a very small percentage of the total mortgages in the country. Modifying those mortgages would not be enough to trigger high interest rates on all other mortgages. Bankruptcy court relief would not be a massive bailout or a taxpayer giveaway. As mentioned in my column, the modifications and the judges' discretion would be very limited. Bankruptcy judges can't just hand out rock-bottom interest rates like treats on Halloween. Rich Leonard, a bankruptcy judge in North Carolina, told a Congressional committee: "The idea that we would (or could) somehow willy-nilly give everyone a 40-year mortgage at 2-percent interest is ludicrous." The issue isn't about cheepo interest rates for greedy undeserving borrowers. It's about giving a second chance to people who have suffered economic hardships and who have extremely onerous loans. Both mercy and justice are righteous.
Marcie Geffner, www.marciegeffner.com
Submitted by Marcie Geffner on May 1, 2008 - 2:05pm.
P.S. With respect to the comment about investors: Investments by definition involve some degree of risk to get a higher return. Total safety earns a mere pittace on, e.g., a bank savings account.
Marcie Geffner, www.marciegeffner.com
Submitted by Scott LeForce on May 1, 2008 - 2:46pm.
Well, it’s not as simple as a BK judge making repayment modifications to a stack of credit cards that appear on a petitioners’ schedule to the trustee. We’re talking about mortgage backed securities here and this is the last place we want a BK judge to exercise power.
Submitted by Gregory Schreiber on May 1, 2008 - 4:30pm.
"Modifying those mortgages would not be enough to trigger high interest rates on all other mortgages."
Is this based upon hope or empirical evidence?
Submitted by Bruce Hahn on May 1, 2008 - 5:28pm.
American Homeowners Grassroots Alliance
Marcie is right. There is no reason homeowners should be denied options available to bankruptcy judges for everybody else but homeowners. Why should judges not be allowed to modify homeowners mortgage debt when they do so routinely for mortgage and other debts of big and small businesses, real estate investors and everybody else except homeowners?
In fact until the bankruptcy laws were changed, judges could and did modify the terms of homeowners' mortgages as well. They did so when appropriate, protecting the interests of lenders to the greatest extent possible while doing so, and the marketplace continued to work just fine. Lenders lost little money on foreclosures and mortgage interest rates were virtually unaffected by the relatively few cases where mortgage loans had to be modified.
We wouldn't be facing today's foreclosure crisis if lenders had not abandoned sound underwriting practices in the first place. One way to incentivise lenders to rediscover the benefits of sound underwriting practices is make lenders again subject to the inevitable results of that abdication of responsibility and bad judgement, which was a hyperinflated market followed by an inevitable bust.
Lenders should have seen that coming, and should not have lent money to people who could barely qualify for the teaser rates. Many of those borrowers were financially naieve, but lenders are not. Lenders knew, or should have known full well that many of those home buyer's incomes were not going to increase fast enough to afford the substantial payment increases when the loan adjusted.
For lenders to try to shift blame to homeowners for the disastrous results of their irresponsibility is the height of hypocracy. The actions of mortgage lenders are the main cause of the fragile state of our current economy. Allowing lenders to continue to benefit from a law that simultaneously shields them from the results of their irresponsibility and discriminates against homeowners is not going to teach lenders to be responsible.
Few lenders are participating in workout programs despite encouragements and enticements for them to do so under terms that would net them more money on their nonperforming mortgages than they would get at a foreclosure auction. Restoring bankruptcy options for home foreclosures will help wake lenders up from their state of denial. If those options for bankruptcy judges were restored, we would soon see more workouts with naive buyers who can't afford to keep up with payments and end a lot of misery for many unfortunate American homeowners.
Submitted by Don Achterberg on May 1, 2008 - 6:33pm.
I side with Marcie on this issue. The arguments against are based on philosophical positions. In practice, giving the Federal BK Courts the limited cram down power, as presented here, is comparable to the powers they now have to alter terms of other secured debt.
I believe (I'm not a lawyer) that California Law says that real estate licensees have a fiduciary duty to their principals (clients), which means that they must inform their clients about what is in the best interest of the borrower.
All "loan officers" in the various recognized entities should be under the same requirement. Borrowers should have legal rights to be fully informed (in written and spoken terms that are easily understood by typical borrowers) of all significant (to the borrower) terms and conditions of a proposed home loan in a timely manner (long before they sit down to sign loan docs). IMHO
Don Achterberg
California Realtor
Submitted by Marcie Geffner on May 2, 2008 - 9:51am.
Thank you all very much for your comments -- both for and against my argument, equally appreciated. This academic paper, "Mortgage Market Sensitivity to Bankruptcy Modification," http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1121054#PaperDownload, is on point and may be of interest.
Marcie Geffner
www.marciegeffner.blogspot.com
Submitted by Michael Gilbert on May 3, 2008 - 1:10pm.
I have somewhat mixed feelings on this subject. First of all, I think it is kind of sad that we are in this situation in the first place.
I don't think blaming anyone is going to make it better. Further more, it is not the fault of one side or the other. Everyone had some hand in this.
A lot of people are acting like a young child that denies doing anything wrong. I didn't do it or it was that way when I got here. When I was 18 years old I purchased a new sports car. A couple months later the company that I worked for downsized and I was out of a job. I got into trouble with my payments and I had to sell the car. I never thought of going back to the dealership or the bank that financed to ask them why they let me buy a car like that. Maybe I should have asked for some of my money back.
Let's face it, we are getting to the point where we aren't taking responsibility for our own actions. Why don't we go to the nicest restaurant in town and order the most expensive item on the menu. When the check comes we can ask for a discount because we couldn't finish it all.
Thats exactly what we are talking about here. If you are not able to understand what you are signing then you should not be signing it.
If you sign a contract that obligates you to pay back the money and you don't understand the terms, then you deserve the consequences.
If cram-downs would be allowed, it would cost us all more in the long run. Mortgage loans are securitized and sold as investment vehicles. You wouldn't like it very much if your bank called you and told you they had to lower your return on your CD.
I don't think you can make an argument that they do the same thing with credit cards. Credit cards are a whole other ball game. You can't through unsecured debt and secured debt in the same bucket.