Much has already been written in the last day about the new guidelines for mortgage refinance and modifications released yesterday by the Obama administration (dubbed "Making Home Affordable"). The Summary of Guidelines can be read here (pdf). The full Modification Guidelines can be read here (pdf). A Q&A for loan refinance and modification counselors can be read here (pdf). And a fact sheet on the programs can be found here (pdf). All this is from the financialstability.gov page. The Counselor Q&A is the most helpful if you don't have a lot of time to read - skip down to #10 in the Q&A for the loan modification portions. Then read the Summary more carefully if you think you may qualify.
Essentially, the program has two pieces - helping homeowners refinance and helping homeowners get up to five years of reduced payments through loan modification. The refinancing part of it, while important, will help very few people in Arizona. It is meant to assist refinancing for homeowners who have less than 20% equity remaining in their home or who are up to 5% underwater on their mortgage. Arizona has such a high number of people who are drastically underwater that this will help relatively few people in the state. Most are just too far underwater to qualify.
The loan modification program, on the other hand, will be able to help many Arizonans. The program essentially incentivizes servicers and lenders/investors (through payments) to modify loans so that monthly mortgage payments end up being only 31% of a borrower's total income. In order to qualify, borrowers must show financial hardship, but must be able to document their income showing that they will be able to continue to make payments - thus keeping people from participating who are unable to continue own a home. If borrowers continue to pay on time over 5 years, they will be eligible for up to $5,000 in principal reduction under the loan modification. The modification program is for mortgages originated before January 1, 2009 and runs until the end of 2012.
So if you are a homeowners, you should check first to see if your monthly mortgage payment (the full PITI) is greater than 31% of all of your sources of income. And if so, you should read the full qualifications for homeowners summarized in the above links to see if you are eligible.
Read more important details after the jump....
Junior Mortgages
A few points that affect many Arizona homeowners are how the modification program deals with junior or second mortgages and provisions for short sales or deeds in lieu of foreclosure (DIL). The modification program only applies to first mortgages and many (most) Arizonans have a second mortgage on their property. To deal with this, the modification program allows up to a $1,000 payment to a second lienholder to forgive the debt and $500 to the servicer of the secondary lien. Alternatively, the second lienholder can simply agree to subordinate to the modified first loan with no payment.
In most cases where a modification is being sought in Arizona, the secondary lienholder already knows that it is not in a good negotiating position. A foreclosure would wipe out any chance of recovery because of Arizona's anti-deficiency statutes and that fact that many homes are so underwater that the first loan won't even get fully repaid upon resale of the house in foreclosure. So I think that in many cases the second will often opt to take the $1,000 (it is better than nothing) and extinguish the debt - leaving only the modified first mortgage on the home. This acts as principal reduction on the home and gives homeowners even more incentive to continue to stay in the home and pay their mortgage.
Of course, this would be the rational thing for seconds to do, and as we have seen, banks are not always acting rationally. It is possible some of the secondary lienholders will think there is a chance that if the homeowners manage to stay in the house and keep up with payments, that someday they will be able to pay back the second loan. Or they may not want to immediately realize the loss for accounting purposes. In Arizona, however, the property values have dropped so far that this thinking is not based in reality. More likely is that the borrower will someday down the road re-default and foreclose or will still have to do a short sale in the future - when the home will in all likelihood still be way underwater. They should take the $1,000 and run.
Short Sales and DIL
Interestingly, the plan strongly emphasizes that servicers should not consider modification for homeowners who are anticipated to default anyway, whether it is due to lack of income or other debts just being too high. This is a very good thing, since it will help keep the rate of redefault down and some people simply aren't situated to be homeowners (and probably never should have been).
To help make sure that banks aren't just modifying loans to earn the quick incentive payouts without regard to ability to pay, the program actually provides a payment to servicers of $500 and up to $1000 for second loans to approve a short sale or deed in lieu of foreclosure. And even better for struggling homeowners is that the program will pay up to $1,500 in relocation costs for families who lose their home in a short sale or DIL.
These components are meant to help mitigate the impact of foreclosures on the surrounding neighborhoods. Homeowners often abandone their homes and trash them on their way out, leaving a lot of external costs to surrounding homes. By providing some incentive payments to homeowners as they leave, they are less likely to destroy their house on the way out. The incentive payments to the servicers help incentivize them to take the time to quickly review and approve short sales (something they don't do well now). And the payment to seconds is an incentive to keep them from trying to extract a payment by withholding approval of short sales - a common practice these days that greatly slows down the process and often ruins a short sale.
Other Comments
The program does do what I have been calling for - reduces principal - in a number of ways. It allows up to $5,000 principal reduction over 5 years if the borrower continues to pay on time. And it has a mechanism to eliminate second loans on homes. This should provide some help to people who want to stay in their homes, but are having difficulty because of economic hardship or some other shock like a recasting negative amortization loan. That being said, many Arizonans are so far underwater, that it will take even more principal reduction for them to consider staying versus just walking away. Financially, it often makes sense.
To help further deal with this problem, the other issue being worked out right now in Congress is the bankruptcy law changes that will allow judges to "cramdown" mortgage principal amounts in bankruptcy. This is expected to be the stick waved at banks to further incentivize them to participate in the mortgage modification program instead of face the prospect of losing a significant amount of their principal amount in bankruptcy. More to come on that topic when/if the bill makes it through Congress...
The Obama administration clearly thought through this problem and has worked to place the proper incentives in the plan to get both homeowners and lenders on board. It also attempts to deal with a problem that is nationwide, but that takes many different forms in different markets. It isn't a cure-all for Arizona and certainly rescues a lot of people on both sides who were irresponsible. But it also rescues even more people who are simply collateral damage to what some are now calling a depression. Hopefully it cushions the blow for those people and provides some confidence back in our real estate market so those on the sidelines waiting to buy come back to the market. This will help create stabilization of housing prices and that will help everyone who is a homeowner.
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