March 21 (Bloomberg) -- Congress is making noises about doing something to help homeowners who can't meet their mortgage payments hold on to their slice of the American Dream.

Democratic presidential frontrunner Hillary Clinton, senator from New York, wants even lower mortgage rates for homeowners facing foreclosure. Senate Banking Committee Chairman Chris Dodd, Democrat of Connecticut, and House Financial Services Chairman Barney Frank, Democrat of Massachusetts, are holding hearings to determine Congress's legislative options.

As a sideshow, our elected representatives will probably spank regulators for not doing more to curb deceptive lending practices and hang executives of subprime lenders out to dry for presiding over the boom-bust cycle.

While lawmakers' intentions may be noble, it's a pretty safe bet that, left to their own devices, they will muck things up even more.

Just to summarize the storyline to date: During the housing boom of the last five years, people with bad credit histories, many of whom lied about their income and nature of employment, got mortgage loans they weren't qualified for to buy homes they couldn't afford. Now that home prices have stopped rising, and the house can't be refinanced or sold at a profit, Congress wants the taxpayer to subsidize the mortgages so these folks can remain in their unaffordable homes.

What's wrong with this picture? Surely there were plenty of cases of fraud, as there always are during extended periods of rising asset prices. (The bodies of both victims and perpetrators generally float to the surface when the bubble bursts.) The legal system is capable of prosecuting loan fraud, a federal crime, be it on the part of the borrower (lying about his income) or the lender (misrepresenting the terms of the loan).

Fraud Is a Crime

Any false statement made to a lender, even if the lender encourages it, constitutes fraud. Why do we need new laws?

``There are adequate laws in place to address false statements on loan applications,'' says Jacob Frenkel, a former federal prosecutor and Securities and Exchange Commission enforcement attorney now in private practice. Similarly, existing ``mail and wire fraud statutes are sufficiently broad to cover predatory conduct by unscrupulous lenders.''

That won't stop Congress, which is forever passing laws to ensure the last problem doesn't recur. The Sarbanes-Oxley Act of 2002, for example, enacted in the wake of corporate accounting scandals, is getting a second hearing. With increased distance from the accounting chicanery following the bursting of the technology and Internet stock bubble in 2000, it seems that in its haste, Congress may have imposed too heavy a regulatory burden on small businesses, thereby reducing the competitiveness of the U.S.

`Political Firestorm'

The percentage of loans entering foreclosure rose to a record 0.54 percent in the fourth quarter, according to a quarterly report from the Mortgage Bankers Association. Delinquency rates rose for all major loan categories, with subprime loans at a four-year high of 13.33 percent.

That's creating a ``political firestorm, making it a priority for Congress,'' says Andy Laperriere, managing director at the ISI Group in Washington. ``Congress may be forced into action in the same way they were forced to do something about accounting issues after (the scandals at) WorldCom and Enron.''

Among the ideas being floated, he says, are a ``suitability requirement'' that would put more of a burden on brokers and lenders to make loans that are appropriate to the borrower.

Suitability Standard

Plenty of unqualified borrowers wanted to cash in on the latest get-rich-quick scheme. Who's to say that a loan with a low, two-year teaser rate wasn't ``suitable'' for the purpose of flipping the home in 18 months for a 30 percent profit? Borrowers and lenders should be able to negotiate freely, which doesn't mean don't ask (the lender), don't tell (the borrower).

Other congressional fixes could include a crackdown on ``low-doc'' loans, or loans that require little documentation of the borrower's income and assets. Congress would probably exert ``pressure on regulators to enforce new lending guidelines on non-traditional and subprime loans,'' Laperriere says.

One thing is certain: The lawyers and the courts will be busy, with borrowers, lenders and investors who bought the securitized loans that weren't all they were cracked up to be assigning blame and seeking compensation. That Congress wants to legislate preventative measures at a time when lenders are already tightening credit (nothing gives a lender religion like losses) isn't a comforting thought.

``New laws designed to address past problems are poorly drafted and create more problems than the law was intended to address,'' Frenkel says.

Existing Incentives

Housing is already a tax-advantaged asset. (The folks who write the tax laws have decided that it should be.) Mortgage interest and real estate taxes are deductible. The first $250,000 of capital gains ($500,000 for a married couple) from the sale of a home is exempt from taxation as long as you have lived in it for two years.

When these incentives are compounded by easy money and loose lending standards, it's not hard to understand how solid economic fundamentals translated into perhaps the biggest residential real estate boom in history.

``When transactions go well, no one complains,'' Frenkel says. ``When they go sour, fingers point in every possible direction.''

Early indications from Congress are that fingers will be pointed at everyone except constituents.

(Caroline Baum, author of ``Just What I Said,'' is a columnist for Bloomberg News. The opinions expressed are her own.)

To contact the writer of this column: Caroline Baum in New York at cabaum@bloomberg.net.

Last Updated: March 21, 2007 00:06 EDT