IN SUPPORT OF JUDICIAL MODIFICATION OF MORTGAGES

Written by William D. Schroeder, Jr. Attorney at Law

It is no exaggeration to say we are facing the greatest foreclosure crisis since the Great Depression.  Credit Suisse has estimated 46,000 homes are being foreclosed upon each week throughout the nation; this is 6,550 per day, 4 ½ per minute.  In Pennsylvania, the number of foreclosures will exceed 50,000 in 2009.  This housing crisis is at the heart of the recession.  Families are loosing their homes.  Lenders have stopped lending.  Neighborhoods are being blighted by vacant properties.  Taxpayer money by the hundreds of billions is being wasted to prop up zombie banks and even more tax dollars are contemplated being spent to solve the crisis.

A key component in dealing with this fiasco which will cost the taxpayer nothing, is the passage of a bill now in Congress entitled “Helping Families Save Their Homes in Bankruptcy Act of 2009“.  It is House Bill 200 and Senate Bill 61.  This bill will give the bankruptcy courts the ability to adjust a defaulted, non-performing mortgage loan to a performing loan, albeit with a lower principal amount. 

The bill will have the added benefit of motivating lenders to provide for true modification of mortgages before a person would even file a chapter 13.  Compare this idea to the failed “Hope for Homeowners” program which was touted by the banks in September to provide modification to 400,000 families in foreclosure; to date the program has produced 25 (yes, you read that right) modified loans.   See the excellent recitation of the facts at this week’s Business Week cover story: http://www.businessweek.com/magazine/content/09_08/b4120034085635.htm?chan=top+news_top+news+index+-+temp_news+%2B+

The banks do not negotiate in good faith to adjust and modify mortgages on people’s homes.  I have specific examples concerning my clients. 

The principal of a non-performing loan will be adjusted to the fair market value of the home and for high interest rate loans, the rate will be reduced to market rate plus several interest points.  The mortgage company will be left with a performing loan albeit at a reduced principal.  No taxpayer money will be used.

In a nutshell the law will work as follows.  The homeowner will first have to decide to file for chapter 13 bankruptcy and thereby be under court financial supervision for a 3-5 year period.  Deciding to file for bankruptcy is no small step for anyone.  The homeowner will have to be in default of their mortgage; performing loans are not eligible.  Once filed, judicial modification of the mortgages can occur in instances in which the total value of all mortgages exceeds the fair market value of the home.  If the interest rate exceeds current rates by a significant amount, the interest rate can be lowered to market rate plus several points to provide for risk, i.e. a person in bankruptcy is not allowed to have a best rate.  Also, no loans made after passage of this bill will ever be eligible for modification; the bill specifically provides for this.

An example: A homeowner has a mortgage (or a mortgage and home equity loan), which totals $300,000.00, but the home is worth only $250,000.00 in this market; the interest rate is 12%, adjustable or fixed.  The homeowner can negotiate with the lender to adjust both the principle and rate.  Failing an agreement, the matter would go before a judge for modification consideration.  Assume the judge determines that the value of the home is now $250,000.00 and fixes the interest rate at 8%; the loan will be so modified and the lender keeps its security in that amount and writes off the $50,000.00 excess.  It now has a performing loan without having foreclosed.  In this example with 25 years remaining, a $3,085.86 monthly payment drops to $1,929.55.  The arrears on the mortgage at the time of filing will have to be paid to the bankruptcy trustee w/in 5 years under court supervision.  The homeowner must live within IRS budgeting standards during this time.

I am always saddened and frustrated for my clients who file bankruptcy.  One would be amazed at the lengths to which people will go to avoid consulting with an attorney concerning their financial problems and to even think about bankruptcy.  A person will typically struggle for 2 to 4 years, cash out their retirement funds, exhaust every other asset, receive harassing phone calls and threatening letters and lawsuits before they will walk into my office; at the time they walk in they have already surrendered emotionally and physically to the financial stress; they are defeated.  Judicial modification of mortgages will give real power to homeowners, a fresh start and hope for the future.

The benefits of this bill are many.  They include:

1. Keep people in their homes and save them from foreclosure
2. Protect and stabilize whole blocks and neighborhoods
3. Stabilize the housing market
4. Use an independent process for valuation of real estate
5. Improve the efficiency of the market place
6. Eliminate predatory loans very quickly
7. Make non-performing loans become performing loans
8. Save taxpayer money; c.f. TARP
9. Remove the controlling power from the entities which created this mess
10. The mere threat of modification will apply pressure to the mortgage servicers to negotiate meaningfully
11. Eliminate the multitude of problems which can prevent meaningful modifications including second mortgages, monetary incentives, lack of staff, servicer mindsets, fear of investor lawsuits
12. Spread the pain between the parties most responsible, the homeowner and lender
13. Loans can thereafter be booked as performing.
14. Keeps the abusive swindlers away from the homeowner
15. No new government agency to be created; the bankruptcy court system exists and functions well.

Bankers and mortgage lenders are vigorously fighting this bill.  They are the lenders who have created sub-prime mortgages, collateralized debt obligations, credit default swaps and derivatives.  Countrywide, WaMu, Merrill Lynch and the list goes on and on.  Their primary argument is judicial modification of mortgages will destabilize the market by creating widespread uncertainty about the value of numerous troubled mortgages according to Steve O’Connor, senior vice-president of the Mortgage Bankers Association.  My response to that is that it is widely known that no one knows the real value of the toxic mortgages now on the banks’ books.  They have been unwilling to write down these loans to any degree; they are hoping the government will over pay them to take the bad loans off of their books.  This very issue is being discussed publicly in such terms of the zombie banks, the proposed creation of bad banks, issue of government not knowing how much to pay for toxic assets.  In the rough and tumble of capitalism and the free market, judicial modification values the asset at market; it is just that the bankers don’t like that value because they are forced to confront and be called to account for their bad decisions. 

The reader needs to know that this bill will only apply to loans actually in place on the date the bill becomes law.  The lenders have already made these bad loans therefore there is no future risk.  In no way are future loans affected. 

Keep in mind that mortgage servicers collect extra fees during default periods.  These servicers benefit from the default process.  To a certain degree they are at odds with their investors.  See Gretchen Morgenson article “Dubious Fees Hit Borrowers in Foreclosure” NY Times, November 6, 2007.  http://www.nytimes.com/2007/11/06/business/06mortgage.html?scp=1&sq=Dubious%20Fees%20hit%20borrowers%20in%20foreclosures&st=cse

People and groups who have come out in support of the bill include: President Obama; VP Biden, Lawrence Summers, Chief Economic Advisor to President Obama and former Secretary of Treasury; Former Labor Secretary Robert Reich; Former Secretary of HUD and Republican Congressman, Jack Kemp; Governors Jennifer Granholm (Michigan), Bill Richardson (New Mexico) and Ted Strickland (Ohio); U.S. Conference of Mayors; Citigroup; National Association of Home Builders; AARP, 22 state Attorneys General; National Conference of Bankruptcy Judges; National Association of Chapter 13 Trustees;  National Association of Consumer Bankruptcy Attorneys (NACBA) of which I am a member; Paul Krugman, Nobel Laureate and NY Times columnist; economist Mark Zandi; over 120 national, state and local consumer organizations.

Hopefully the bill will also solve a current, vicious problem of which few people are aware.  There are swindlers throughout the country who claim they can act on a homeowner’s behalf to modify a defaulted mortgage; they require payments of upfront fees of $1000.00 - $4,000.00; see January 15, 2009 NY Times article by John Leland, “Swindlers Find Growing Market in Foreclosures http://www.nytimes.com/2009/01/15/us/15mortgage.html?).  These organizations are advertising in the newspapers and on TV and radio; they certainly sound legitimate to the frantic homeowner. 

I have several clients who have been victims.  One, who I met Thursday, had given $1,000.00 to New Hope Modifications, LLC of Bellmawr, NJ in early January.  She called them on Tuesday February 10 to find out the status of matters; they told her at that time there was nothing they could do and that her home is scheduled for sheriff sale on Tuesday, February 17.  I filed an emergency bankruptcy petition on Friday and the sale has been stopped.  Look at its web site; google its name for a list of unhappy customers.

My personal belief, having practiced bankruptcy law and real estate law for 24 years, is that the dishonest mortgage broker who received huge commissions for making these toxic loans is now prowling the community in the guise of mortgage modification advocate. 

The information that I have is that Senators Casey, Lautenberg and Menendez support this bill.  Senator Specter does not; he feels only the interest rate should be modifiable (this is not good enough to provide adequate help to the homeowner).  Congresspersons Allyson Schwartz, Fatah, Brady, Joe Sestak and Bob Andrews support the bill.  Congressman Patrick Murphy is unannounced.   

The bill permits judicial modification of mortgages; an inaccurate term commonly used to describe the process is “cram down”.