Are There More Foreclosures Than Necessary?

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New figures out this week show that foreclosure filings are up 32 percent from a year ago. Our Planet Money team found that some people in the mortgage industry are saying something remarkable: As many as half of these foreclosures don't need to happen.

RENEE MONTAGNE, host:

New numbers out this week show that foreclosure filings are up 32 percent from a year ago, adding to the millions who are losing their homes. NPR's Chris Arnold has been working with our Planet Money team. He's found that some in the mortgage industry believe that as many as half of these foreclosures don't need to happen.

CHRIS ARNOLD: Lenders keep foreclosing on all these houses, but they don't really want the houses. In fact, they take huge losses when they foreclose. And so, there's this paradox - a lot of these people really shouldn't be losing their homes. It's not that they deserve help out of some doe-eyed feeling of charity, or because hard working people deserve a break, but because of the math.

In many cases right now, it's a win-win to cut people deals, lower their payments to keep them in their homes. Then the lender would keep getting payments. It would also help the housing market, and the whole economy, but the system just isn't working right.

Mr. MARK PIERCE (Deputy Banking Commissioner, North Carolina): Unfortunately only five to ten percent of the people that probably need the help are actually getting something that's going to enable them to stay in their home.

ARNOLD: That's Mark Pierce. He's North Carolina's deputy banking commissioner and he says it's a huge problem. Pierce has been meeting with executives at all the major banks and mortgage companies and he's been getting the industry's own data on foreclosures.

Mr. PIERCE: The other 90 to 95 percent of homeowners, the system drives them to lose their home.

Mr. DANNY SHAPONE(ph) (Call Center Manager, Ocwen): So far today, almost 3,000 calls have come in just to home retentions. It's 3:30.

ARNOLD: Danny Shapone is a manager at a call center run by a company named Ocwen and we came here to find out basically what's going on.

Unidentified Woman (Call Center Representative): Okay. And go ahead and just verify the last four of your social and your name please.

ARNOLD: This is like the engine room of the foreclosure crisis, right here. If you own a house and you send in your mortgage payment, it comes to a company like this one.

Ocwen is what's called a loan servicer. Most people have never heard of loan-servicers, but they're the middle man between you and the person that you owe. They're also the people you call when you can't pay. Or they'll call you. They're a debt collector.

Unidentified Man (Call Center Representative): (Foreign language spoken)

ARNOLD: We're in a big room, lots of cubicles, and call center workers with headsets. Ocwen agreed to talk to us probably because they're different than a lot of other loan servicers - in one important way. If you call, they might actually help.

They modify a lot of mortgages. That means that when a borrower can't pay, they say that 75 percent of the time, they work out a deal that keeps the homeowner in their home. They do this for three times as many people as they're foreclosing on, because it makes good business sense.

(Soundbite of typing)

ARNOLD: Margery Rotundo is a vice president who manages the call center. She shows us Ocwen's computer system. This is where they crunch the numbers that allow them to be nice to people.

Ms. MARGERY ROTUNDO (Vice President, Ocwen): So here's the other financial information that we gather, you know, your monthly food, electric, cable.

ARNOLD: Margery points to a computer that actually calculates how much money would be lost in a foreclosure for one of their loans. The software knows what the average repair costs are for foreclosed properties in any given neighborhood. It calculates the legal fees.

Ms. ROTUNDO: You're broker fees once you sell it is going to be $6300. The closing cost, $1,837.

ARNOLD: Then a lot of these houses are what's called upside down or under water. That means that they're worth less than what the homeowner owes on their mortgage. That's huge.

Say I'm the bank and a borrower owes me $400,000, but now it turns out that the house is only worth half that. If I foreclose, I own a house that I can only sell for $200,000. I've lost at least half my money. So even if I cut the homeowner an incredible deal, I tell them to forget about $50,000 or even $100,000 of that 400 that he owes me, I still come out ahead. I've lost less money.

Or by slashing the interest rate, I can cut the borrower's payments in half. It's all there in the numbers on Margery's computer screen.

Ms. ROTUNDO: Any type of situation that a borrower is in, if they communicate with us, there's a way out.

ARNOLD: Ocwen is just one company that's gotten religion about doing loan workouts. The problem is there are dozens of other loan servicers. The biggest ones are owned by the big bank, Wells Fargo, Citigroup, Chase - the same big banks that are getting bailed out by the government right now. They all have big servicing divisions. We sat down with Ocwen's president, Ron Faris, in his modest conference room. He said those bigger companies, the big banks, it turns out were just not set up to deal with this problem.

Mr. RON FARIS (President, Ocwen Financial): One of the largest servicers in commercial banks in the country came down to visit - and this was probably back in about, you know, mid-2007 - and what they said to us was, we know that delinquencies are rising. We know that, you know, we're not going to be able to hire enough experienced collectors. And to compound that, we don't have all of that mathematical stuff that you're talking about, the models and whatever, and we're not sure what to do because we're pretty sure that by the time we get it implemented, it will be too late. And I'm talking about one of the largest, you know, banks in the world sat here in this room and told us that story.

ARNOLD: And they're basically saying, well if everybody pays on time, everything is great, but we really don't have the systems in place to deal with it if people stop paying.

Mr. FARIS: It was eye-opening to hear them actually say that they have a problem and they weren't sure what to do.

ARNOLD: Ocwen on the other hand has been doing this for a while. They've always specialized in so-called distressed debt, which means that they were the industry's problem loan guys. They were like the messed up loan foreclosure specialists.

Before this crisis, that was a tiny part of the market. Now it is the market. There are all sorts of other reasons that the big banks and loan servicers aren't modifying more mortgages. Some say homeowners don't return their calls. And inside the industry there are backwards incentives, complicated accounting reasons, conflicts of interest, all these problems.

Mr. ROD ALBA (Vice president for mortgage finances, American Bankers Association): That's exactly right and you know, the - whether to engage in the loan modification is indeed a bank specific calculation.

ARNOLD: That's Rod Alba, the vice president for mortgage finance at the American Bankers Association, which represents banks around the country. He basically agrees that a lot more loan modifications would make good business sense. But many big loan servicers haven't figured out how to make that happen.

Mr. ALBA: The level of the market disruption just caught many servicers by surprise, and indeed, in many instances, we are still learning and we're still getting our systems in order in order to be able to handle the massive levels of defaults that certain communities are suffering.

ARNOLD: Meanwhile, a chief economist at the ratings agency, Moody's, estimates that of the six million foreclosures we're facing in the next few years, about half don't need to happen.

The Obama administration has a new plan to try to help, but for now, we're still right in the middle of this giant foreclosure mess. People are losing their houses at a faster rate every month, another one every eight seconds.

Chris Arnold, NPR News.

MONTAGNE: And you can hear a longer version of Chris's story this weekend on Chicago Public Radio's "This American Life."

And find out more about fixing the foreclosure mess on our Planet Money blog and podcast at npr.org/money.

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