Washington, D.C. – November 17, 2008 – (RealEstateRama) – U.S. Senator Arlen Specter (R-PA), Ranking Member of the Senate Judiciary Committee, today introduced the Foreclosure Diversion and Residential Mortgage Loan Modification Act of 2008.
Senator Specter’s bill would create a foreclosure evaluation office within the Department of the Treasury that would coordinate and assist foreclosure prevention efforts at the federal, state and local level, and work with courts, government agencies and community-based nonprofit organizations. The new office would run public awareness programs to inform homeowners about free counseling and legal services available to them and lift certain restrictions on funding of those services. A copy of the bill is attached. Specter’s full statement as submitted for the Congressional Record follows:
Floor Statement of Senator Arlen Specter on Introduction of the Foreclosure Diversion and Mortgage Loan Modification Act of 2008
Mr. President, I seek recognition today to introduce the “Foreclosure Diversion and Mortgage Loan Modification Act of 2008.” The bill amends the recently passed Emergency Economic Stabilization Act and the Housing and Economic Recovery Act passed last July to ensure that more attention and resources are given to the urgent need to prevent home foreclosures and to stabilize the housing market.
The bill creates an Office of Foreclosure Evaluation in the Treasury Department. This Office will coordinate and foster foreclosure prevention efforts of the Treasury Department, the Federal Housing Finance Agency, the Federal Reserve, the Federal Deposit Insurance Corporation, the Department of Housing and Urban Development, and other federal agencies. The Office will also support and collaborate in foreclosure prevention efforts with state and local government agencies, state and local courts, and community based non-profit organizations, such as the State Foreclosure Prevention Working Group.
The current economic turmoil began with a housing market collapse that has had devastating consequences across the entire financial system. Widespread mortgage modification will address the root cause of the current crisis. Despite talk and efforts since early 2007 to encourage voluntary loan modification, the pace of affordable and sustainable modifications has not been of sufficient scale to contain the harm to our communities and our economy.
This month, HUD made a preliminary projection that only about 20,000 homeowners may be helped by the Hope for Homeowners program created as part of the Housing and Economic Recovery Act, instead of the anticipated 400,000. In October, a Federal Reserve Governor expressed concerns about the recent rise of shady companies that masquerade as non-profit foreclosure prevention organizations, and then charge distressed borrowers thousands of dollars for their services. Congress must act to ensure that homeowners are getting the information and help they need to prevent avoidable foreclosures.
For the second quarter of 2008, foreclosure filings nationwide were up 121% over the second quarter of 2007. Comparing third quarter filings, the 2008 increase over 2007 is 71%. Today there are more than 1.5 million houses in foreclosure—three times the normal rate—and approximately 3.5 million other homeowners are behind on their mortgage payments. Too many families are losing their homes even when it makes more sense for the lenders to let them stay and make payments on a sustainable, modified mortgage. And despite reports from industry groups that there have been many modifications, consumer groups say many of these modifications simply spread missed payments over the remaining life of the loan, which has the perverse effect of raising, not lowering, the monthly payment. A recent Credit Suisse report found that of those mortgages where the monthly payments increased, 44% were more than 60 days delinquent after 8 months. By contrast, of those mortgages that received an interest rate reduction, only 15% were more than 60 days delinquent after 8 months. Similarly, of those mortgages where the principal balance was reduced only 23% were delinquent. .
In some regions of the country the housing and job markets are holding up fairly well, but in other areas the increase in foreclosures is or will be devastating. But there is some good news: in some of the areas that have been hardest hit, there are newly instituted state-court based mortgage foreclosure diversion programs that require conciliation conferences between lenders and borrowers before a foreclosure or sheriff sale may proceed. In some places, there are hundreds of trained pro bono attorneys willing to help homeowners. Homeowners need these programs because, even though many states have housing financing programs, homeowners may not know about them and they may not know that lenders may offer modifications. A recent policy paper by the Mortgage Bankers Association of America showed that borrowers in 21% of foreclosures initiated in the third quarter of 2007 either could not be located or would not respond to repeated attempts by lenders to contact them. According to a report by Freddie Mac, 57% percent of late-paying borrowers do not know that their lenders may offer alternatives to help avoid foreclosure.
The October 17, 2008 Senate Judiciary Committee hearing I held in Pittsburgh explored Allegheny County’s foreclosure prevention program, which is at an early stage. The Philadelphia hearing I held on October 24, 2008 explored a program that was adopted in April 2008, and it appears to be working. In the Philadelphia Mortgage Foreclosure Diversion Program’s first few months, there were 1,019 mortgage foreclosure cases scheduled for conciliation conferences. In 467 cases (46%), borrowers did not participate. Of the 552 (54%) in which borrowers did participate, there was a “success” rate of 80%–meaning the homeowners remained in their homes as a result of settlement, postponement, or bankruptcy. Only 2 properties (.4%) were ordered to be sold at sheriff sale. The delays allow for more negotiation, or, in some cases for “graceful exits” so families can find a new place to live.
The witnesses at the Philadelphia hearing testified about successful outcomes for homeowners. One witness, Tania Harrigan, testified that her family fell behind in mortgage payments when her husband was laid off. They filed for bankruptcy but could not afford to pay the fees; the bankruptcy suit was dismissed and the house was listed for sheriff sale for November 4, 2008. Through the Philadelphia foreclosure prevention program, the interest rate was lowered from 9.75% to 7%, which reduced the monthly payment from $437 to $411. The lender waived $6,500 in late fess and the arrearage was put back into a new 30-year fixed rate mortgage. Another homeowner who was contacted through the program’s door-to-door outreach initiative had an adjustable rate mortgage modified from a 22% interest rate to a fixed rate of 6%. Another homeowner saw a reduction in her monthly payments from $1479 to $1124 after the interest rate went from 9.9% to 5.5%. These were “voluntary” in the sense that the court did not impose the terms of the modifications. But the court does require communication, research and preparation before the conference. The court makes foreclosure a last resort instead of the first step by ensuring that servicers or lenders are not simply ignoring alternatives to foreclosure.
A city employee testified that, as a result of coordinated outreach, calls to the Save Your Home Philly Hotline, which sets up appointments with housing counselors, tripled from 150 per month at the beginning of the year to 460 per month currently. City-funded neighborhood assistance groups who have access to court foreclosure files go door-to-door to reach homeowners. The participation rate in the conciliation program for homeowners who answered the door and spoke to the outreach team was 73 percent, compared to 48 percent for families that received no such outreach. The city also funds Community Legal Services to provide legal assistance to distressed homeowners and training to the hundreds of volunteer attorneys who represent clients pro bono.
New York, New Jersey, Ohio, Connecticut and Florida have similar programs. As I’ve noted, Pittsburgh is also adopting a foreclosure diversion program. Common Pleas Court Judge Annette Rizzo in Philadelphia testified that she has had many inquiries about the foreclosure diversion program from numerous cities, states, and even from Sweden. These are good developments, and they should be nurtured.
That is what this legislation would do. It creates a federal Office of Foreclosure Evaluation that will encourage and assist cities and states in adopting mortgage foreclosure diversion programs. The Office will also conduct an informational campaign so that homeowners learn of state and federal housing finance programs that are available to help them, as well as other resources such as free counseling and legal representation by community legal services groups and local bar associations.
The States and cities are making progress, but federal assistance would help. The bill permits certain HUD Community Block Grant funds to be used for foreclosure prevention programs that provide free counseling and legal aid. Currently those funds may only be used for rehabilitation of vacant or foreclosed properties. There is also a provision that will free up funds so they may be used to support programs that provide legal advice and representation to homeowners in foreclosure actions; the current restriction on using funds for litigation is overly broad. Unlike some plans discussed in the press, this bill does not call for direct payments to borrowers. Rather, it makes federal funds available to support state and local foreclosure prevention programs that work.
The bill also addresses another reason there are not more affordable and sustainable loan modifications–even though modifications usually leave lenders with more money than the 50 cents on the dollar that a foreclosure sale typically brings them. Up until the last 10 or 15 years, a mortgage loan involved two parties—the borrower and a bank that both originated the loan and retained the default risk. If the individual borrower had trouble, it was in the bank’s interest to adjust the terms of the loan. But that is no longer the model. Through securitization, the risk of default has been transferred to investors. There is no longer a single entity that has an interest in reworking failing loans. The loans are pooled together and the stream of payments from those mortgages is divided up into securities owned by investors all over the world. A mortgage servicer manages the pools of loans and distributes the payments to investors. It is the mortgage servicer who has the ability to restructure a mortgage or foreclose on the property. However, the servicers do not have the same incentives that banks used to have. The way many pooling and servicing agreements (PSAs) are written, there may be no incentives for the servicers to restructure the loans. Servicers typically get paid a fee if they foreclose, but may have to absorb the cost of renegotiating the loans. One of the first steps the Office of Foreclosure Evaluation should take is to encourage servicers to use technology that would standardize the income to expense and loan resolution process to keep costs down. The Office also should determine what incentives may be needed to encourage servicers to modify contracts. It may ultimately be appropriate for the government to offer servicers a flat fee for each sustainable, affordable modification completed within a certain time period to help cover their additional costs.
Perhaps a more significant roadblock is that servicers are worried they may be sued by some of the investors. Many servicers still are thinking that it is best to simply pursue foreclosures. Congress tried to address this concern in the Housing and Economic Recovery Act of 2008 and again in the Emergency Economic Stabilization Act, by clarifying that, unless the contract or PSA clearly provides otherwise, the duty owed by the servicer to investors is owed to the entire pool and not to any individual groups or tranches of investors, but the servicers still appear to be reluctant or slow to modify.
The concerns of the servicers or lenders may not be unfounded. Recently, lawyers claiming to represent investors are challenging the settlement between Countrywide and 11 attorneys general; the settlement proposes to modify the loans of 400,000 borrowers. An October 24, 2008 article in the New York Times reported that certain hedge funds are opposing loan modifications because it might hurt their investments. At least two funds recently have warned servicers that they might be sued if they participated in government-backed plans to renegotiate delinquent loans. Congress must take action to protect homeowners who are getting caught in the middle. So far disputes over loan modifications have been theoretical because most mortgage servicers are not aggressively altering the terms of loans, but as a matter of public policy, we cannot let fear of tort and contract claims cause grave harm to consumers and the entire economy.
The bill addresses the litigation threat by requiring investors’ attorneys to conduct a careful inquiry into the factual and legal bases of their claims, including consideration of the recent statutory clarification that the servicer’s duty is to the entire pool of investors or beneficial owners. The attorneys also would have to obtain, as a prerequisite to filing suit, a certification from the new Office of Foreclosure Evaluation that the loan modifications in question were unreasonable or not permitted by restrictions on Real Estate Mortgage Investment Conduits under the Internal Revenue Code. This opinion would be admissible, but not conclusive. These administrative prerequisites should result in more uniformity, guidance and clarity regarding applicable legal standards and best practices for servicers, taking into account the public interest and current threat to our economy posed by barriers to reasonable modification. This is not complete immunity from suit. If the litigation threat continues to impede modifications, Congress may have to hold hearings to consider sufficient safeguards for servicers–taking into consideration the importance of having capital available for the mortgage market.
In addition, although financial services industry groups have criticized arbitrary quotas in PSAs that limit the percentage of loans in a pool that may be modified, some PSAs do contain such quotas. These quotas may have seemed reasonable before the housing market crashed, but they do not make sense now, are against public policy and, to the extent these quotas are less than 25% of the total, they are rendered unenforceable by this bill.
Finally, to ensure we have reliable data regarding mortgage loan modifications, the bill requires mortgage servicers to report detailed data to the Office of Foreclosure Evaluation. The bill also requires the Office to submit reports to Congress. This data will help the Office and Congress understand whether voluntary efforts are sufficient, and what specific barriers there may be to case-by-case loan modifications, including specific provisions in pooling and service agreements that may be impeding reasonable steps to avoid foreclosures.
In the end, case-by-case loan modifications may not be sufficient to appreciably slow the rate of foreclosures, in which case the government may have to consider other options. In that regard, I believe the proposal made recently by Sheila Bair, the Chairman of the FDIC, deserves close consideration. Ms. Bair’s proposal is based on the FDIC’s real world experience with 5000 troubled mortgages at IndyMac Bank, which the FDIC recently took over. Under the proposal, delinquent homeowners would have their mortgage payments reduced to as low as 31 percent of their monthly income. The modifications would be based on interest rate reductions, extension of the term of the mortgage, and principal forbearance—in that order. The same protocol would be applied to all delinquent mortgages, rather than having a case-by-case assessment of each mortgage. The Bair proposal may have the advantage of enabling rapid modification of large numbers of mortgages, stemming the tide of foreclosures. If a modified loan defaults later, the government would share up to half of the losses. The proposal would be funded under the $700 billion financial rescue package. I spoke to Ms. Bair last week, and she estimates her proposal could reach up to 2.2 million mortgages and enable 1.5 million homeowners to keep their homes. If effective, across-the-board rather than case-by-case modifications may be necessary.
In the meantime, the Foreclosure Diversion and Mortgage Loan Modification Act of 2008 will encourage servicers to engage in greater numbers of case-by-case mortgage modifications. This should be a goal those on both sides of the aisle can agree to. I urge my colleagues to support it.