Noelle Knox and Sue Kirchhoff
USA Today
Foreclosure signs such as this one in Herndon, Va., are becoming all too common in some places.
WASHINGTON — Treasury Secretary Henry Paulson announced on Thursday details of a plan to freeze interest rates on hundreds of thousands of subprime mortgages, hours after new data showed a record number of homeowners went into foreclosure in the third quarter. None of them will be eligible for financial relief under the proposal.
Treasury Secretary Henry Paulson announced on Thursday details of a plan to freeze interest rates on hundreds of thousands of subprime mortgages, hours after new data showed a record number of homeowners went into foreclosure in the third quarter. None of them will be eligible for financial relief under the proposal.
Nearly one in five homeowners with subprime adjustable-rate loans — around 600,000 borrowers — were in default in the July-September quarter. But the rescue deal forged by regulators and the mortgage industry is designed to help 1.2 million who have subprime ARMs that would reset to higher rates starting next year through mid-2010.
The plan won’t help borrowers with prime ARM loans, either. Those loans accounted for nearly 19% of foreclosures begun in the third quarter — another record high. That figure is expected to surge even further in the next two years as more of those loans reset to higher rates. The pain will be particularly severe in California and Florida, which accounted for 42% of the new prime ARM foreclosures last quarter.
The administration’s plan “will make a difference,” Paulson said. “It will reduce the number of avoidable foreclosures.
“This is not a silver bullet,” he acknowledged.
The mortgage industry estimates that half of those eligible will have their rates frozen; the other half should have the financial strength to refinance into a fixed-rate loan.
But Mark Zandi, chief economist for Moody’s Economy.com, estimates that only about one-third of the eligible borrowers will be saved, because the plan faces legal and logistical hurdles. Resistance from investors and the plan’s tough qualifications could limit its success.
The alarming pace of foreclosures is threatening to send the real estate market deeper into recession and drag the economy down with it. After one of the most spectacular booms in history, fueled by flagrantly imprudent lending, the real estate market is suffering the biggest correction since the Great Depression, Zandi says. Home prices this year will post their first average annual drop since World War II, and will drop again next year, the Mortgage Bankers Association projects.
“We expect the housing market, broadly defined, to bottom out in late 2008, no earlier than the third quarter, because of the substantial inventories” of homes for sale, said Doug Duncan, the MBA’s chief economist.
A national 24-hour hotline exists for borrowers in financial trouble: 888-995-HOPE. But some credit counselors, already overwhelmed with calls, complain that loan-servicing companies lack the staff to handle the crushing caseload.
Linda Ingram, a credit counselor at Beyond Housing in St. Louis, is trying to get Saxon Mortgage to postpone a Jan. 8 foreclosure on a family with three children.
The loan officer “told me about many files he had stacked up on his desk,” she recalls. “I’m sure he has files to the ceiling with work, but my point to him is no one should lose their homes because you or I can’t get the volume of work done — let’s postpone it. But the process is continuing.”
A call to Saxon Mortgage was not returned.
Strict qualifications
Even as the average interest rate on a 30-year fixed-rate loan fell last week to 5.96%, the lowest point since September 2005, many subprime ARM borrowers will have trouble refinancing under the Bush administration’s plan. That’s largely because the qualifications are strict. Borrowers must live in the home and cannot have missed more than one payment in the past 12 months.
More than half the borrowers who got subprime ARMs last year, for example, provided little or no documentation of their income. These loans are nicknamed “liar loans” in the industry. It’s unclear how many borrowers who got this type of loan will be able to qualify for a new loan.
In September, the Federal Housing Administration launched a loan insurance program called FHASecure, designed to help borrowers refinance out of their subprime ARM loans. In the first three months, the FHA received 111,000 applications for the FHASecure loan but has funded fewer than one-third.
“It’s a nice attempt, but I’ve submitted two (applications), and both were denied,” said Pava Leyrer, a mortgage broker and president of Heritage National Mortgage in Grand Rapids, Mich. “There are lots of lenders saying they offer the program, but I’m not finding anyone who will do the loan,” she said. “I don’t think lenders are comfortable with it.”
In Michigan, one in four borrowers with a subprime ARM is in default. Last month, the Wayne County treasurer’s office ran a 121-page foreclosures notice in the Detroit Free Press. Community housing advisers say they’ve never seen so many people come through their doors looking for help paying their mortgages.
President Bush’s promise to freeze mortgage rates is a welcome first step, says Deborah Jones, president of the Detroit Alliance for Fair Banking, but more needs to be done.
“These foreclosures are like some sort of evil that has come to steal, kill and destroy the American dream,” Jones says. “We have to have corporate leaders and the government say, ‘This is massive — thousands of people are being affected. What can we do to provide a win-win solution for everyone?’ “
Michigan‘s high unemployment rate and massive job losses in the auto industry are partly to blame. The state is seeing its longest stretch of job losses since the Great Depression, say economists at the University of Michigan. From 2000 to 2006, the state lost 336,000 jobs and is predicted to lose an additional 33,000 by the end of 2008.
Across Detroit, homes are being boarded up and vandalized, and the shred of a downtown revival the city has seen in recent years is threatened if residents in the rest of the city can’t hang on to their homes.
Elmira Smith-Vincent, founder of Mission of Peace Community Development Corp. in Flint, Mich., says the number of people coming to her agency looking for help paying their home bills has skyrocketed in the past year. What’s most worrisome, she says, is that it’s no longer isolated to just low-income homeowners. Even traditionally middle-class homeowners are now seeking help.
Bush said Thursday: “We should not bail out lenders, real estate speculators or those who made the reckless decision to buy a home they knew they could never afford. Yet there are some responsible homeowners who could avoid foreclosure with some assistance.”
But his plan became an instant political flashpoint. The presidential candidates and key lawmakers issued statements to support or strike at the proposal.
Sen. Sherrod Brown, D-Ohio, a member of the committee on Banking, Housing and Urban Affairs, said the plan was mainly too little, too late:
“Families across Ohio have known for a long time that we are in a housing crisis, but this administration told us that it was ‘largely contained.’ So long as it was largely contained to the Midwest, it didn’t require any response. But once Wall Street started to feel the pain, this administration jumped into action.”
Investor resistance likely
The most serious challenge to the plan is likely to come from investors, who are spread around the globe and could sue to protect the terms of the loans, which were pooled together and sold as bonds.
The bailout plan in itself is “more form than substance,” says Mark Morgan, analyst at Rochdale Securities. But the plan’s intent is to add confidence to the mortgage debt market and get it to start functioning again. And if it’s successful, Morgan says, investment banks and investors holding bonds backed by the lowest-rated subprime loans could benefit.
Standard & Poor’s isn’t so sure. The rating agency said, “Since security holders considered the original loan terms and rate resets when making their initial investment decisions, the loss of potential payments or returns may discourage continued participation in the U.S. subprime” mortgage market.
Stock investors, however, celebrated the bailout.
The S&P 500 Homebuilding index gained 13%, the biggest one-day percentage gain by the index since it was created in 1989, says Howard Silverblatt of S&P. Still, the index is down almost 60% over the past 12 months, he says.
Even Toll Bros., which on Thursday posted an $82 million quarterly loss, saw its stock rise 13%, despite CEO Robert Toll’s dismal synopsis: “By many measures, fiscal 2007 was the most challenging of the 40 years that Toll Bros. has been in business.”
Tim Backshall, chief credit derivatives strategist at Credit Derivatives Research, said, “The housing recession is still the worst in U.S. history and is likely to get worse, regardless of this relief plan. We don’t expect this to help in the short term. A hard landing for the economy is unavoidable, regardless of any debt relief plan.”
Proposals in Congress might provide additional relief. One bill would change the bankruptcy law to let judges change the terms of a loan. And the administration also wants Congress to temporarily change the tax law to relieve the burden on homeowners who sell their homes for less than they owe the bank.
And to stop history from repeating itself, the Federal Reserve will issue new rules this month, targeting liar loans, prepayment penalties and the borrower’s ability to repay the debt.
“While (the new plan) is not a permanent solution, it is a critical step forward for buying time for families,” said Michael Heid, co-president of Wells Fargo Home Mortgage (WFC). “It also buys time for the housing market to hopefully stabilize so that refinancing options again become available for all of these consumers.”
