Mortgage Modifications Won't Benefit Everyone

With millions facing foreclosure, there's more pressure on mortgage lenders to cut deals with troubled borrowers. One of the toughest challenges is designing a system that helps the greatest number of homeowners without creating what's known as a moral hazard. That means creating a system that doesn't encourage people to stop paying their mortgage, in hopes of cutting a better deal.

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If you're one of those people Chris Arnold mentioned who were saying, what about me? Consider this. Some lenders already have programs that lower payments by reducing interest rates or extending the life of a mortgage. But not everybody qualifies, and that makes some people mad. That's what's hard about devising a loan-modification program. The goal is to avoid foreclosures without creating incentives for everybody else to stop paying the mortgage. NPR's Yuki Noguchi has this report.

(Soundbite of protest)

YUKI NOGUCHI: I'm standing in front of Fannie Mae where over a hundred people have gathered to protest what they say are unfair rules that are preventing people from being able to restructure their loans and avoid foreclosure. To protest this, they've brought a number of moving vans and unloaded several couches, some mattresses, some old clothes. And they're yelling, let's foreclose on Fannie Mae. This is where I meet Brenda Swan(ph).

Ms. BRENDA SWAN: My husband has just come out the hospital from extensive surgery, and I have a son that's had two strokes and is paralyzed. Now we have more medical expense.

NOGUCHI: Also, their adjustable rate mortgage just added $800 to their payments. Since this spring, she's been asking Wells Fargo to renegotiate the loan on her Maryland home. They said no. Most mortgage workouts happen only when someone's fallen behind.

So let me get this straight. You're still current on your payments?

Ms. SWAN: Well, I'm current right now, yes.

NOGUCHI: Do you ever feel tempted to be delinquent so that they'll want to rework your loan?

Ms. SWAN: Indeed, I do. Yes. Yes.

NOGUCHI: The problem, in a nutshell, is when lenders create rules for who can get a mortgage workout, they're drawing a line in the sand. They're deciding between taking a hit on a mortgage versus the possibility that the property will go into foreclosure. The discussions between the FDIC and the Treasury Department are aimed at increasing the number of mortgage workouts. Specifically, the government would put itself on the hook if modified home loans default again. But there too, the government would have to draw a line between the borrowers who qualify and those who don't. And no matter where it's drawn, there will be borrowers just outside that line who will say this is not fair.

Take IndyMac Bank. It was taken over by the FDIC and has offered new deals to homeowners who are more than 60 days delinquent but still not in foreclosure. Fannie Mae says it's modified 300,000 home loans since last year. It offers some help to those who are only a month behind, although its formal modification process kicks in only when borrowers are four months behind. Peter Morici is a professor at the University of Maryland. He says no matter how the rules work, they'll be full of pitfalls.

Dr. PETER MORICI (Professor of International Business, University of Maryland): It's fraught with moral hazard and social inequities. You're penalizing the prudent to rescue the profligate.

NOGUCHI: What makes loan modifications difficult to accept ethically is that they aren't granted based on whether someone deserves one. They aren't denied because of stupid financial choices. It's just a numbers calculation about whether it makes more financial sense to the lender to keep a person in a home. Lenders lose a lot of money on foreclosures, so it often makes more sense to cut a deal. Evan Wagner is a spokesman for IndyMac Bank.

Mr. EVAN WAGNER (Vice President of Communications, IndyMac Federal Bank): Is it unfair that one neighbor who is paying their bills every month doesn't get a break that somebody who isn't paying their bills does get? No, of course it's not fair.

NOGUCHI: Wagner says these programs are about getting the most money back for investors who hold the loans on people's homes and in the process trying to calm the rising tide of foreclosures.

Mr. WAGNER: Everybody who has a mortgage anywhere is going to want a better deal. This isn't about giving you a better deal. This is about stopping the bleeding. And this is about trying to put a floor in place so assets stop losing their value at the rate that they have been.

NOGUCHI: IndyMac is sifting through 65,000 home loans on the brink of foreclosure. Wagner says homeowners may try to trick the system to qualify for a modification, even at the risk of hurting their credit scores.

Mr. WAGNER: The odds are they're not going to qualify for a loan modification because we're going to see through it, because we're going to know what their income was and we're going to understand that they were trying to game the system.

NOGUCHI: But he admits some will win that game. With tens of thousands of loans to fix, not everything will end up fair and square. Yuki Noguchi, NPR News.

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