While the Obama administration is temporarily reducing mortgage payments for a growing number of troubled borrowers, it has failed to find permanent fixes for all but a precious few. A little more than 4 percent—or 31,382—of the more than 728,000 modifications underway through November have advanced from the program's trial period to the permanent phase. News of the dismal conversion rate comes shortly after the administration announced new efforts to pressure mortgage servicers to do more to keep struggling borrowers in their homes. "Our focus now is on working with servicers, borrowers, and organizations to get as many of those eligible homeowners as possible into permanent modifications," Phyllis Caldwell, who heads Treasury's Homeownership Preservation Office, said in a statement. Here are four things you need to know about the development:
1. Trial period: The Obama administration announced its $75 billion antiforeclosure initiative in February. Under the terms of the modification program, the government offers cash incentives to lenders and servicers to bring borrowers' monthly payments down to more affordable levels. But before borrowers can land a permanent modification, they must make payments in an initial, three-month trial period. Additional paperwork is also required to convert a trial modification into a permanent one. Although the administration had extended only 387,000 trial modifications through August, the figure jumped to nearly 700,000 by the end of November. But getting those borrowers into permanent modifications has been tricky.
2. Hang-ups: JPMorgan Chase has done a better job than other major players of turning trial modifications into permanent ones. It has extended 136,686 trial modifications and more than 4,000 permanent modifications through November. (Compare that to Bank of America, which has converted just 98 of its more than 156,000 trial modifications into permanent ones.) Molly Sheehan, a senior vice president of housing policy for JPMorgan Chase, told a congressional committee Tuesday that documentation requirements often prevent borrowers from landing permanent fixes. While 71 percent of its modified borrowers made all three payments in the trial period, nearly 72 percent of those failed to accurately produce the required documentation for conversion.
3. Servicer pressure: Although foreclosure filings dropped from October to November, more than 300,000 households received a filing during the month. Moreover, many housing experts expect foreclosure sales to increase in the coming months as servicers—who had been hesitant to act until they understood the government's plan—determine which homes can't be saved. In an effort to combat this, the government has been ramping up pressure on servicers. Treasury recently said it would conduct on-site visits to see what's keeping servicers from converting more trial loan modifications into permanent ones. "Our challenge now is to keep the pressure on," William Apgar, HUD's senior adviser for mortgage finance, said in a statement. "HUD-approved counselors are working with borrowers to ensure they are doing their part to transition into sustainable permanent modifications, and we will ensure that servicers convert as many of those modifications by the end of the year as scheduled as they are scheduled to."
4. Negative equity: But even if Treasury succeeds in getting more troubled borrowers into permanent fixes, a larger question remains: How many modified borrowers will go delinquent even with the reduced payments? After all, mortgage modifications have had a lackluster success rate. For example, more than 50 percent of home loans that were modified in the first quarter of 2008 went bad again within six months, according to federal bank regulators. On top of that, Laurie Goodman, a senior managing director at Amherst Securities Group, argues that the Obama administration's modification effort is "destined to fail" because it does not address the issue of negative equity, or borrowers who owe more on their mortgage than the property is worth. "Beating up on servicers to 'do more' poorly designed modifications won't solve the problem," Goodman told the committee in written testimony. "The program as implemented is addressing the wrong issue."
Negative equity can tempt homeowners to simply walk away from their homes even if they can afford the payments. And with roughly 1 in 5 American homes currently underwater, the issue is playing a key role in the national foreclosure epidemic. But the Obama administration does not compel mortgage servicers to reduce monthly payments by writing down the principal of the loan. As a result, the modified loan does not improve the homeowners' negative equity position. Goodman calls this a fatal flaw in the program. "The current modification program does not address negative equity, and is therefore destined to fail," Goodman said. "It must be amended to explicitly address this problem."