Friday, December 4, 2009

Bair Weighs Loan Principal Cuts to Fight Foreclosure

Posted on Bloomberg by Alison Vekshin:

Federal Deposit Insurance Corp. Chairman Sheila Bair may ask lenders to cut the principal on as much as $45 billion in mortgages acquired from seized banks, expanding her bid to aid homeowners as unemployment rises.

The FDIC, which has taken over 124 failed banks this year, may seek to have lenders that sign loss-sharing agreements when acquiring the assets do more than cut interest rates or defer the loan’s principal, Bair said today in an interview at Bloomberg’s Washington office.

“We’re looking now at whether we should provide some further loss sharing for principal write downs,” Bair said. “Now you’re in a situation where even the good mortgages are going bad because people are losing their jobs. So you have other factors now driving mortgage distress.”

Bair, 55, is stepping up her effort to prevent U.S. home foreclosures, using the agency’s relationship with lenders to make change. She has pressed mortgage-servicing companies to modify loan terms for struggling borrowers and unsuccessfully lobbied last year to have the Treasury Department use the Troubled Asset Relief Program to curb foreclosures.

The FDIC set up a foreclosure-relief program last year at IndyMac Federal Bank, a failed California mortgage lender, to be a model for the banking industry. The program, using a combination of interest-rate reductions, term or amortization extensions and principal forbearance, led to agreements to modify about a third of IndyMac’s eligible loans.

Rising Unemployment

In September, Bair urged banks that are sharing losses with her agency to temporarily reduce mortgage payments for out-of- work borrowers. U.S. unemployment soared to a 26-year high of 10.2 percent in November.

The agency now is considering whether lenders that acquire banks should share a larger portion of the losses on loans whose principal is cut and whether the FDIC will recover the additional subsidy through reduced foreclosure rates.

“I think we’re going to gain by reducing re-default rates or delinquencies with people walking away,” Bair said. “We’ll obviously lose by providing loss-share for principal writedowns.”

Under the average loss-sharing agreement, the FDIC pays as much as 80 percent of losses on a residential mortgage up to a set threshold, with the acquiring bank absorbing 20 percent. Any losses exceeding the threshold are reimbursed at 95 percent of the losses booked by the acquirer.

$80 Billion

The FDIC has loss-sharing agreements on $109.1 billion of failed-bank assets, including $44.7 billion for single-family home loans, spokesman Andrew Gray said.

“For the acquiring banks, it’s great because now they get more protection for the assets that they’re picking up and they have more flexibility in dealing with the problems,” John Douglas, who leads the bank regulatory practice at Davis Polk & Wardwell LLP in New York and is a former FDIC attorney, said in a telephone interview.

Principal reductions will help borrowers who are “underwater” on their payment-option adjustable-rate mortgages, whose principal expands over time, said Julia Gordon, senior policy counsel at the Center for Responsible Lending.

“In order to make those loans affordable and give those homeowners a reason to stay rather than walk away, principal reduction is going to be key,” Gordon said.

The U.S. Treasury Department plans to pressure lenders to complete modifying home loans to troubled borrowers under a $75 billion program. Almost 651,000 loan revisions had been started through the Obama administration’s Home Affordable Modification Program as of October, up from 487,080 as of September, according to the Treasury.

The Washington-based FDIC insures deposits at 8,099 institutions with $13.2 trillion in assets. The agency is charged with dismantling failed banks and manages an insurance fund it uses to reimburse customers for deposits of as much as $250,000 when a lender collapses.

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