Cautious optimism for federal foreclosure prevention program

Mortgage loan modifications, like those under the Home Affordable Modification Program (HAMP), that reduce monthly payments are more likely to be sustainable in the long term than earlier modifications, according to the latest Mortgage Metrics Report from the OCC and OTS.

However, it will be difficult to predict the success of HAMP loans, which promote affordability by reducing monthly payments down to 31% of the borrower’s income, because many homeowners at risk of foreclosure do not receive needed counseling and have trouble making and maintaining connections to mortgage servicers.

The report found a sharp increase in modifications that reduced the borrower’s monthly payment. From January 2008 to March 2009, the majority of modifications actually raised or kept payments the same (click here to see why). By contrast, more than 78% of the modifications done in the second quarter of 2009—when HAMP started—reduced monthly payments. Modifications that reduced payments by 20% or more increased from 29% of all modifications in the last quarter to 38.6% in this quarter. Payment reduction is critical because, as the report notes, “the data…consistently show that re-default rates were lowest, and payments most sustainable, for modifications that reduced monthly payments.” The graph below shows that the more payment is reduced, the more sustainable the loan is in the long term—by a substantial amount. The re-default rate for modified loans whose payments were increased is almost twice the re-default rate for payments reduced by 20% or more:
Some critics have claimed that relatively high re-default rates of modified loans in the past do not bode well for the success of HAMP. However, as the below graph shows, the loan modifications being made today are vastly different in terms of affordability than loans made a year ago. Given HAMP’s emphasis on reducing monthly payments to an affordable level, the data indicate that the prospects for long-term sustainability are good. 

The report also found a substantial difference in re-default rates for modifications on loans held in a servicer’s own portfolio versus loans serviced for others. The servicers’ own loans performed much better than the loans serviced for others, which the authors of the report hypothesize is due to “differences in modification programs and the servicers’ flexibility to modify loan terms to achieve greater affordability and sustainability.” Some servicing agreements may prohibit the alteration of terms that would result in a lower monthly payment for all but the most delinquent of borrowers, which restricts the servicers’ ability to work with borrowers on the verge of delinquency. This is a significant handicap because, as the report notes, “the more serious the delinquency, the less likely the borrower will remain current after modification.” Migrating loans out of a lender’s portfolio not only increases moral hazard, but it restricts the servicer’s ability to work with borrowers, too.

Finally, Mortgage Metrics noted that completed foreclosures increased 16.9% from the previous quarter as federal, state, and servicer moratoria on foreclosures ended. This echoes a finding from the most recent Woodstock analysis of Chicago-area foreclosure filings: as the purpose of these moratoria is to give borrowers more time to work with their servicers to find an affordable payment option, they will only result in lasting reductions in foreclosures if sufficient resources are dedicated to connecting borrowers with reputable housing counselors. Otherwise, foreclosure filings will return to or even surpass previous levels.

The Second Quarter 2009 Mortgage Metrics report offers both hope and admonition. The data continue to predict greater success for modifications that reduce monthly payments down to affordable levels, which HAMP does. But the success of HAMP relies on the ability of borrowers to stay connected to their servicers, make it through the trial modification stage, and enter into a permanent modification. Considering experiences like this one from NHS of Chicago, which said that “82% of the individuals attending [a borrower outreach event] reported they had contacted their lender previously, 48% indicated they had contacted their lender four times and 56% reported they had attempted to apply for a loan modification on their own prior to coming to the…event,” that will prove to be a significant challenge. Moreover, the improved sustainability of HAMP modifications will not be sufficient to stop the hemorrhaging of the foreclosure crisis unless HAMP is extended to a much larger segment of the market than it currently covers.