3 ways to help borrowers without bailing them out

Wednesday, August 22nd, 2007

The following was in USA Today this morning.  I think it’s a pretty good summary of the foreclosure crisis and what needs to happen in order to fix the problem.  Colorado is actually at the forefront in adopting new policies and programs to help correct and avoid lending problems, as well as try to keep people out of foreclosure, because our state started seeing really high foreclosure rates quite a while ago. 

Bottom line:  If you can’t afford the house, don’t buy it, even if you qualify.  Think reasonably about what you can acutally afford and look for something in that price range.

The July foreclosure numbers that came out Tuesday are a sobering reminder of just how bad the nationwide mortgage crisis is becoming. Fueled in large part by shaky lending to people with less than perfect credit, foreclosure filings nearly doubled from a year ago and are running at an annual rate of more than 2 million.

That’s still a small percentage of total households, but analysts warn that the big wave is still building. Many of the weakest loans were made in late 2005 and early 2006, and their two-year “teaser” rates will expire in the months to come. Many more homeowners could find themselves in trouble when their rates reset and their mortgage payments jump.

In reaction to the housing meltdown, Congress and regulators are already working to curb “liar loans” (no proof required that a borrower can actually repay) and other nutty lending practices. The Federal Reserve is moving to reassure jittery financial markets by pumping in billions of dollars and cutting the interest rate it charges banks.

That’s all well and good, but what about the people who are falling behind on their mortgages and losing their homes? This is, after all, more than just a personal tragedy.

Foreclosures, especially millions of them, can become a nasty, self-reinforcing cycle of falling home values. The credit markets have already been badly rattled by defaults in mortgages that were packaged and resold as supposedly safe securities. Together, this threatens the broader economy and makes it everyone’s problem.

As hard as it is to see people lose their homes, it’s easy to say what not to do: Don’t use taxpayer money to bail out lenders or borrowers. Deceptive and predatory lenders don’t deserve it, nor do borrowers who knew or should have known better. The market’s brutal efficiency is already meting out appropriate punishment. If government gets into the business of using tax money to protect people from the consequences of poor financial decision-making — a risk in proposals by some Democrats to aid homeowners — that virtually guarantees bigger problems down the road.

So, short of a bailout, what to do? There are at least three good ideas:

* Bankruptcy reform. About the only debt a bankruptcy judge can’t modify is a home mortgage. Borrowers used to get into trouble not because of unsustainable mortgages, but because they lost a job or got ill. Now homeowners commonly fall behind because they can’t keep up with their mortgages. Bankruptcy judges should get more latitude to rework mortgages along with other debt.

* Tax code changes. Sometimes, badly strapped homeowners can persuade lenders to reduce the size of a mortgage to reflect a home’s plummeting value or the homeowner’s inability to keep up with the payments. Sometimes, the lender forecloses and a homeowner can walk away with no house, but also no debt. That would seem to be the end of the story, but it isn’t to the IRS, which often considers either action as income to the borrower, and sends a big tax bill. It makes sense to alter the code to keep the tax collector from making a bad situation worse.

* Education and advice. Sometimes, a home could be saved if its owner only knew that it was possible to renegotiate the mortgage — and that a lender might prefer getting smaller payments to no payments at all. Scores of state organizations and non-profit community groups are working to educate and counsel homeowners, and in many cases to help them renegotiate their mortgages to keep their homes.

Congress’ Joint Economic Committee says the cost of mortgage counseling is often $1,000 to $3,300. But the cost of foreclosure — including lost home equity to the borrower, lost mortgage payments to the lender, lost tax payments to the local government and lower values in the neighborhood — is as much as $80,000. If that’s true, this could be a useful way for all of those parties to moderate their losses.

As the foreclosure numbers build, accompanied by wrenching personal accounts, the political pressure for bailouts is likely to mount. Policymakers must resist the pressure but should find practical ways to lend a hand.

If you are having problems making your mortgage payment, talk directly to your lender.  They want to avoid foreclosure just as much as you do!

- Stacie

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