Nov 14, 2008

The Federal Mortgage Modification Morass

Yesterday a client asked me whether he should start defaulting on his mortgage payment. He got word from his lender that his payments might be substantially reduced in the future, but only if he was at least three months behind when he applied for the modification program. More than anything, the idea that you have to miss payments to get help with your mortgage defines the trouble we are in.

On November 11, Secretary of the Treasury Henry Paulson announced just such a plan for mortgages owned by federal housing agencies Freddie Mac and Fannie Mae. Unfortunately, these entities own only a small percentage of the outstanding sub-prime mortgages -- the type that give rise to most of the foreclosures. According to Sheila Bair, head of the Federal Deposit Insurance Corporation (the regulator of most of the nation's banks), this policy only addresses the tip of the foreclosure iceberg. The FDIC is pushing its own program that may prove to be the centerpiece of the Obama plan.

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According to the Treasury announcement, your Freddie or Fannie mortgage payments will be reduced to 38% of your pre-tax income by lowering your interest rate and extending the term of your mortgage. Oddly, this 38% figure is nearly 10% higher than the standard ratio previously used by lenders to determine affordability. In other words, your modified Fannie or Freddie mortgage will be technically unaffordable by a large margin. Huh!

In tandem with this new Fannie and Freddie mortgage program, the federal government continues to offer (under the HOPE for Homeowners Act) 30-year fixed rate FHA-insured mortgages for homeowners at risk of foreclosure. While you don't have to be behind on your payments to participate in this program, it does require your mortgage owner to voluntarily cash out the current loan at something short of your home's current appraised market value (just how short will likely range between 3% and 10%, due to amendments included in the bailout bill). So far, very few lenders have stepped up to the plate. And homeowners aren't all that thrilled either since they would have to share at least 50% of any future equity they develop with the federal government.

It's important to keep in mind that federal foreclosure mitigation policies are being fashioned by a few individuals who likely will not be around on January 20, 2009. Also, the Democrats' majorities in the House and Senate will be enhanced. As the economy continues to deteriorate and a new government takes hold, radical -- and unpredictable -- changes in the federal government's approach to the foreclosure epidemic are virtually guaranteed.

If you want to know about what modification opportunities are available for your mortgage right now, whether under the federal programs or under other programs operated by private mortgage owners, you'll need to find out who's calling the shots and what type of plan they offer. Consider using a free HUD-certified housing counselor to help you get this information. You can find a counselor in your area by calling 1-888-995-HOPE.

To learn more about modification programs and opportunities, see Nolo's article Mortgage Modification and Refinancing Under the Homeowner Affordability and Stability Plan.