Fannie Mae and Freddie Mac could save $1.7 billion if they forgave principal on some troubled mortgages, the companies’ regulator said today in Washington.
The Federal Housing Finance Agency may make a decision “in the next few weeks” about whether to change its policy barring the two taxpayer-owned companies from performing such loan modifications, Edward J. DeMarco, the agency’s acting director, said in a speech at the Brookings Institution. DeMarco said he remains concerned that debt writedowns could be an incentive to default for some so-called underwater homeowners, who owe more than their properties are worth, offsetting any cost savings.
“Will some percentage of borrowers who are current on their loans be encouraged to either claim a hardship or actually go delinquent to capture the benefits of principal reduction?” DeMarco said.
The FHFA, which began overseeing Fannie Mae and Freddie Mac when they were taken into U.S. conservatorship in 2008, has come under pressure from the Obama administration and consumer advocates to cut principal for underwater borrowers.
DeMarco has barred the companies from reducing principal on the seriously delinquent loans they own or guarantee on the grounds that it would hurt their bottom line.
The new FHFA analysis cited by DeMarco takes into account incentives from the U.S. Treasury that would pay Fannie Mae and Freddie Mac as much as 63 cents for every dollar of principal they forgive. The Treasury would provide the money to the companies under its expanded Home Affordable Modification Program, using leftover funds from the Troubled Asset Relief Program.
Even though Fannie Mae and Freddie Mac will save $1.7 billion because of the payments of as much as $3.8 billion from the Treasury, the net cost to taxpayers of the writedown will be about $2.1 billion, DeMarco said.
Fewer than 1 million households would be eligible, out of 11 million underwater borrowers nationwide, and the savings from principal writedowns could also be offset by increased cost of implementing such a program, DeMarco said.
“All these cost factors would have to be carefully considered in coming to a decision on whether to employ principal forgiveness or not,” he said.
Additional Measures Coming
The FHFA will announce additional measures to help troubled homeowners in the next few weeks, and is considering ways to structure a program that would include some money offered by Treasury, said a person familiar with the discussions. Other measures may include a program that would allow delinquent Fannie Mae and Freddie Mac borrowers to continue to live in their houses as renters after turning over the deeds, according to two people with knowledge of the matter.
Shaun Donovan, secretary of the U.S. Department of Housing and Urban Development, has urged DeMarco to change the policy.
“The issue here is about the numbers and the analysis and whether this is not only good for homeowners but also good for the taxpayer,” Donovan said during an April 8 television interview.
DeMarco has been publicly lowering expectations that the Treasury incentives will lead to a large-scale principal-reduction proposal. He has been touting the companies’ existing mortgage-modification programs, which often involve reducing monthly payments by charging zero interest on a portion of a loan and deferring its repayment.
More Effective Efforts
The use of existing programs instead of principal forgiveness was endorsed today by the head of the American Bankers Association. “The taxpayers’ cost for principal reductions generally exceeds the benefit created,” ABA President Frank Keating said in statement issued by the industry group. “Modifying loans in ways other than reducing principal has proven to be more effective for troubled borrowers.”
Fannie Mae and Freddie Mac have completed 1.1 million loan modifications since the end of 2008, and have engaged in more than 1 million other transactions to avert foreclosures, including short sales or repayment plans.
FHFA at the end of last year expanded the Home Affordable Refinance Program to make more underwater borrowers eligible to refinance into loans at lower interest rates.
Even with the additional Treasury payments, FHFA analysts are considering whether loan forgiveness would create new costs by encouraging defaults among underwater borrowers who kept making payments on their mortgages, DeMarco said last month.
About 3 million borrowers are underwater on loans backed by Fannie Mae and Freddie Mac. Of those, three in four are current on their payments, DeMarco said.
“This should be recognized and encouraged, not dampened with incentives for people not to continue paying,” he said during a Boston speech last week.
In a January analysis sent to Congress, FHFA said it would cost Fannie Mae and Freddie Mac an additional $100 billion to write down all 3 million underwater loans to the value of the homes securing them.
Far fewer loans would actually be candidates for principal forgiveness, even if FHFA changes its policy.
Economist Dean Baker of the Center for Economic and Policy Research, who supports debt reduction, estimates that at best the tactic would help an additional 200,000 to 300,000 families keep their homes.
“You just want it to to be a tool in your toolbox,” Baker said. “To say you’re not going to have it as a tool just seems crazy. On the other side, to say that it’s a huge game-changer, that the housing market is going to go booming is crazy.”
Not All Helped
Finance professor Anthony Sanders, who spoke on a panel today after DeMarco’s speech at the Brookings Institution, said reducing debt would not help many borrowers who have seen a long-term decline in their economic circumstances.
“The only fraction of the population it might help are households that have a temporary decline in income due to either job loss of one of the members or they’ve had to cut back in hours,” said Sanders, who teaches at George Mason University in Fairfax, Virginia.
While FHFA tries to decide what to do, private investors are increasingly finding that principal writedowns work, said Andrew Jakabovics, senior director of policy development at Enterprise Community Partners, who was also on the panel.
“If the GSEs aren’t willing to do it, there are plenty of investors who are buying these notes,” he said.
One solution might be a pilot program that would reduce principal by as little as 5 percent to 10 percent on some loans, while giving the government-sponsored lenders a share of the upside if the value of the home increases, said John Griffith, a policy analyst at the Center for American Progress, a Democratic-linked Washington organization. So-called “shared appreciation” agreements are being used by servicers such as Ocwen Financial Corp.
The U.S. government has spent $190 billion to shore up Fannie Mae and Freddie Mac since they were taken into federal conservatorship in 2008 after their investments in risky loans soured.
“From the perspective of FHFA, the main goal is to protect taxpayers,” Griffith said. “We need to make sure this principal reduction strategy is appropriate. We believe it is, for certain types of loans.”
A loan writedown program that would include some form of shared appreciation “is being talked about,” DeMarco said.