In a bid to stanch the swell of home mortgage foreclosures, the Bush administration said Thursday it will freeze interest rates for up to five years on more than a million subprime mortgage loans.
The deal was hammered out with leading mortgage firms and investors in mortgage-backed securities.
The president, flanked by Treasury Secretary Henry Paulson and Housing and Urban Development (HUD) Secretary Alphonso Jackson, said they were working to limit disruption to the economy.
"There's no perfect solution, but the homeowners deserve our help," he said.
He and Paulson stressed that government funds will not be used to execute the plan.
"Lenders and investors would face enormous losses, so they have an interest in supporting mortgage counseling and working with homeowners to prevent foreclosure," the president said.
As for the government, he said, its function is not to bail out lenders, real estate speculators, or those who made the "reckless decision" to buy a home they knew they could never afford.
"Yet, there are some responsible homeowners who could avoid foreclosure with some assistance," President Bush said, noting some 1.2 million homeowners could be helped.
Not all of those homeowners would get the rate freeze, however.
The five-year freeze is applicable only to borrowers with loans agreed to from January 2005 through July 2007; and those loans must be slated to adjust between January 2008 and July 2010.
Others would get assistance in refinancing with their lenders as well as moving into loans backed by the Federal Housing Administration, according to President Bush.
Adjustable-rate mortgages typically initiate with attractive, low, single-digit interest that can make very expensive homes affordable — at that time — to those of modest income. But it can quickly become untenable when it adjusts, typically upward, to sync with levels in the broader economy.
They are crafty debt instruments for those who are savvy about debt management. They came to wreak havoc on the credit market, however, because they were so freely issued to borrowers who couldn't keep up with the additional amount tacked on when the mortgages adjusted higher.
Consequently, some 2 million people were projected to go into foreclosure next year as payments on their adjustable-rate mortgages ratchet up to unaffordable levels.
Some of the new payments are estimated at as much as 12 percent above what homeowners currently pay.
The president's plan comes amid fresh reports of a stressed housing market. Home foreclosures surged to an all-time high in the third quarter.
The Mortgage Bankers Association said Thursday that the percentage of all mortgages nationwide that started the foreclosure process jumped to a record high of 0.78 percent from July to September. That surpasses the previous high of 0.65 percent set in the previous quarter.
More homeowners also fell behind on their monthly payments. The delinquency rate for all mortgages climbed to 5.59 percent in the third quarter. That was up from 5.12 percent in the second quarter and was the highest since 1986, the association said. Payments are considered delinquent if they are 30 or more days past due.
The five-year moratorium put forth by the Bush administration is middle ground. Banking regulators were seeking up to seven years, while industry leaders were up to freezing rates for no more than two years.
The deal also involves plans to ease the way for borrowers to refinance their mortgages through lenders or state and local housing authorities.
Only those with the income to pay their mortgages at lower rates will be eligible. And the plan would be offered only to people who live in their homes. That way, real estate investors won't benefit from the options.
President Bush and top regulators such as Federal Reserve Chairman Ben Bernanke have previously acknowledged that many consumers were shoved into loans with terms that they did not understand. They have said that the mortgage industry will become more transparent.
On Thursday, President Bush said the Fed will soon announce stronger lending standards aimed at helping borrowers.
"HUD and the federal banking regulators are taking steps to improve disclosure requirements so that homeowners can be confident they are receiving complete, accurate and understandable information about their mortgages," he said.
Consumers weren't the only ones disappointed when adjustable-rate mortgages didn't work. Many lenders and investors across the globe came up short as well because mortgages today are bundled and sold as securities to investment firms instead of remaining in the portfolio of the originating lenders — who, if they had problems, could go back to the banker that loaned the money and renegotiate, if possible. The rash of foreclosures made the securities difficult to offload.
The debacle toppled reputable firms, forcing them to seek emergency funding and unseating their top officers. Some of the biggest players were Citigroup, Merrill Lynch and Countrywide Financial.
President Bush announced a deal with the mortgage industry Thursday to freeze interest rates for up to five years for borrowers with subprime mortgages. The plan was brokered by the Bush administration, working with groups representing lenders, investors and consumers. Here, a look at how the program works, what it does, and just as important, what it doesn't do.
What does the agreement to help troubled home borrowers do?
It would make it easier for lenders to "freeze" certain mortgage rates that are scheduled to reset between Jan. 1, 2008, and July 31, 2010. The "freeze" will last for five years. The idea is that if borrowers are given a little breathing room, the number of foreclosures can be held down.
Will this "freeze" cover everyone who took out one of these adjustable-rate mortgages?
No. The freeze would apply only to loans taken out between Jan. 1, 2005, and July 30, 2007. It doesn't apply to real estate investors and speculators, or to people whose mortgages have already reset to higher rates.
Instead, it is aimed at a narrow category of borrowers: those who have so far been able to pay their mortgages but face an impending reset that may put them into default. People who fell behind in their mortgages even before their reset are excluded, as are people deemed by their lenders to be able to afford a reset.
That sounds as though borrowers who got in over their heads are rewarded, and more responsible borrowers get punished.
You could look at it that way, and many people do. But the country has already seen a sharp jump in foreclosures, which has hurt economic growth. And with some 1.5 million outstanding mortgages expected to reset next year, many more borrowers are expected to have trouble paying their bills.
Some help will be offered to other borrowers as well. The Bush administration points out that it has proposed new rules that will make it easier for some borrowers to refinance their mortgages, for example, by transferring into loans backed by the Federal Housing Administration, and those changes will apply even to borrowers who've paid their bills on time.
Where can people who are concerned about their mortgages get help?
Well, only people who ask for help will get it. They should call 1-888-995-HOPE (4673) — the number for the Homeownership Preservation Foundation, a nonprofit group that offers free housing advice for homeowners.
How far will this plan really go to reduce the number of foreclosures and clean up the mortgage mess?
The biggest criticism of the plan is that it doesn't go far enough. The Bush administration says 1.2 million people could be eligible for a rate freeze, but Barclays Capital has estimated that only a fraction of those—about 240,000 homeowners—would actually get relief. More will be eligible for refinancing assistance.
Most of the loans that will reset in the next two years were long ago bundled into securities and sold to investors. The value of these securities has already fallen. A freeze in interest rates would reduce the value of these investments even more. So some investors will consider going to court in order to stop the plan to freeze rates. Other investors have decided that fighting the freeze will only lead to more foreclosures — and an increased chance of recession. And that, they have concluded, isn't good for anyone.