Four years into the financial crisis, foreclosure numbers remain daunting, with nearly 80,000 U.S. households receiving default notices for the first time in August.
But help might be at hand, now that the Obama administration is requiring mortgage servicers to offer up to 12 months of payment "forbearance" to homeowners who have lost their jobs. The idea is to give borrowers breathing room while they seek work in a difficult job market. And with 111,000 people out of work in the Baltimore area as of August, the need is certainly great locally.
Why forbearance, and why now? Because far fewer homeowners than expected have been aided by the administration's flagship homeowner-assistance programs — the Home Affordable Modification Program (HAMP) and the Home Affordable Refinance Program (HARP). This is owed in part to a mismatch between the programs' focus on subprime loan defaults and the immediate cause of the more recent defaults: unemployment.
The earlier foreclosures, in 2006-07, were concentrated among subprime borrowers with uncertain incomes, spotty credit histories, and unsustainable mortgage payments. When house prices fell, crushing those borrowers' hopes of refinancing into lower-cost mortgages, they defaulted. By contrast, nearly 2 in 3 foreclosure filings today occur on prime loans made to borrowers who had sound credit histories and dependable incomes when the loans were originated. However, the recession put many such borrowers out of work and "underwater" — unable to make payments but also unable to sell their homes for enough to pay off their mortgages. And with half the unemployed out of work for five months or longer, relatively few have sufficient savings with which to make mortgage payments.
For homeowners whose mortgage difficulties were caused by joblessness, the flagship programs fall short or are entirely out of reach. For example, though HARP gives underwater borrowers the chance to refinance, doing so would reduce the average interest rate by only about 11/4 percentage points and would trim only $200 off the average monthly mortgage payment — too little to keep the jobless out of foreclosure. Similarly, HAMP requires mortgage servicers to cap mortgage payments at 31 percent of current income for a minimum of five years, but only if the lender's return would exceed what he might expect from a foreclosure. The probability, then, that an unemployed borrower would receive a HAMP modification is low, because 31 percent of an unemployed person's income can be pitifully small. Given a choice between accepting a near-zero payment for at least five years and foreclosing, the lender will take the latter. This might explain why fewer than 800,000 households (7,800 in the Baltimore area) have benefited from HAMP since mid-2009, about 75 percent below the administration's hoped-for number of approximately 3.5 million.
Recognizing that existing programs were unworkable for those struggling with job loss, the administration pushed servicers last year to offer unemployed homeowners three months of forbearance. But servicers didn't promote the program, and homeowners weren't eager to pursue assistance that expired after three months. That's why, as of this past August, servicers must offer up to 12 months of forbearance.
With no public funds appropriated for the forbearance program, mortgage investors or servicers bear the costs, which are relatively small. For a typical mortgage payment of $1,400, the cost to the servicer of borrowing this amount each month to keep payments flowing to the mortgage investor is $420, assuming he does this for a full year and borrows at 5 percent interest. No other appreciable costs are involved, because the homeowner's payments are deferred, not forgiven.
This is exactly the kind of help most borrowers need after they have lost their jobs: the opportunity to postpone payments during unemployment. Also, besides the low expense, forbearance carries minimal moral hazard: It's unlikely in this labor market that homeowners will quit their jobs or refuse employment offers to postpone mortgage payments for a year.
Unfortunately, stumbling blocks remain. Most troubling is that Fannie Mae and Freddie Mac are not participating in the program. Because they own or guarantee most prime mortgages — the area in which defaults are now concentrated — the government-sponsored enterprises' absence from the forbearance program could prevent tens of thousands of unemployed borrowers from getting help. Many will end up in foreclosure, the costs of which far surpass those associated with forbearance. So, while Fannie and Freddie may think they are protecting taxpayer monies — which they see as their obligation as entities under federal conservatorship — they could end up costing taxpayers much more.
The administration should work with mortgage lenders, investors and servicers in promoting the forbearance program, and Fannie and Freddie need to get on board. While forbearance won't be a cure-all for foreclosures, it can go a long way toward helping more Americans hold onto their homes.
Eileen Mauskopf, an associate professor at the Johns Hopkins Carey Business School, is a former senior economist on the staff of the Board of Governors of the Federal Reserve System. She can be reached at email@example.com.