SIGTARP Outlines Future Barriers to the Success of HAMP
In addition to analyzing the factors that have constrainedrnthe success of the Home Affordable Modification Program (HAMP) the SolicitorrnGeneral for the Toxic Asset Relief Program (SIGTARP) also looked at factorsrnthat might impede HAMP's success going forward.
As was explained in the first piece of this commetary, SIGTARPrnevaluated the HAMP program in an effort to find why HAMP has, thus far atrnleast, fallen below expectations for putting distressed homeowners intornpermanent loan modifications. The studyrnfound, that among other factors, the HAMP program had not clearly articulatedrnthe goals for the program nor had it clearly stated the guidelines for thernprogram until after participating servicers had already began program implementation. It also faulted the program for inadequatelyrnmarketing the program to its target audience. rnThe findings were presented to Treasury Secretary in late March.
SIGTARP also sees five areas where HAMP's future success mightrnbe impeded;
The report pointed out that the Treasury Department isrnestimating that 40 percent of borrowers who receive either trial or permanentrnloan modifications will default on those modifications and potentially be inrndanger of losing their homes to foreclosure within the five years that thernmodifications are slated to be in effect. The report said it is still too early to evaluaternthe impact of re-defaults on the program's success or on the accuracy ofrnTreasury's re-default estimates.
Limitations on debt-to-income eligibility ratio:
Unlike most underwriting, the affordability ratio that HAMPrnhas chosen to use replies only on a “front-end” calculation, with nornrestrictions on debt level beyond that presented by the mortgage itself. This has the potential of overestimating therntrue ability of borrowers to make their modified payments in either trial orrnpermanent modifications. Rather thanrnexcluding borrowers with high “back-end” ratios resulting from carrnpayments, credit card debt, and second mortgages, those with total debt ratiosrnexceeding 55 percent must merely sign an agreement to work with a HUD-approvedrndebt counselor. The report points outrnthat, as of last December, borrowers with debt rations greater than 50 percentrnrepresented more than half of HAMP permanent modifications while nearly a thirdrnhad total ratios exceeding 70 percent. “Thisrnproblem is exacerbated by the unacceptably high unemployment rates which will potentiallyrnincrease household debt and could have a dramatic impact on re-default rates.”rn
FivernYear period of permanent modifications:
Treasuryrnbased the five year length for modifications on an analysis used to determinern”a reasonable time frame for price recovery including review of future prices,rna statistical analysis of the steepness of actual price declines, considerationrnof broader macroeconomic forecasts, experiences of other modification programs,rnand judgment.”
HAMPrnmodifications are adjusted to below prevailing market rates which, after thernfive year period, can incrementally increase by up to one percent per yearrncapped by the 30-year rate prevailing on the day the modification agreement isrndrafted. These increases could hinder borrowers'rnability to pay if income does not increase commensurate with the interest raternadjustments, mimicking the situation which led to widespread defaults forrnsub-prime adjustable rate mortgages during the current crisis. The report uses the HAMP average unpaidrnprincipal balance of $247,149 and average remaining term of 327 months tornproject a monthly payment that will increase 23 percent by the fourth yearrnafter the permanent modification if the rate is increased the maximum of 1rnpercent per year. Current projections,rnthe report says, suggest that salaries may not increase by a correspondingrnrate.
Treasury estimates that up to 50 percent of mortgages atrnrisk of delinquency or foreclosure are backed by a junior lien. Where these liens exist they can hamper arnborrower's ability to make payments under a modification unless the second lienrnis also modified or extinguished. HAMPsrnsecond lien program requires that, if the lender holding a second lien is alsorna HAMP participant, that lender must agree either to modify the loan under arndefined protocol or accept a lump sum from Treasury in exchange for fullrnextinguishment of the lien. Even thoughrnthis second lien program was announced in April 2009, it has not been fullyrnimplemented and participation has been “extremely limited.” Bank of America, Wells Fargo, and Chase havernrecently signed on to the program so it is hoped that participation will bernimproving.
Negativernequity and strategic defaults:
Negative equity presents substantial risk to HAMP'srneffectiveness. The program's rules dornnot require servicers to address negative equity, i.e. the borrower owing morernthan the property is worth, however, the report quotes an industry expert who callsrnit the “most important predictor of default.” It is estimated that the 25 percent of allrnborrowers nationwide with negative equity represent almost half of allrnforeclosures. SIGTARP said it was notrnable to obtain documentation to support the different estimates as to thernweighted average of the combined mortgage loan amounts compared to the home'srnvalue for all borrowers in HAMP trial modifications but the numbers allrnindicate that the average HAMP mortgage is underwater.
Treasury Secretary Geithner has said that his departmentrnmade “a conscious choice” not to start HAMP with principal reductionsrnbecause they were more expensive for taxpayers, harder to justify, and had arnhigher risk of unfairness. The reportrnsaid that in this context, borrowers who are current on their mortgages mayrnconsciously choose to stop paying their mortgage if they are aware thatrndelinquent borrowers receive incentives and financial assistance under HAMP.
The practice of a borrower choosing to default even when herncan afford the mortgage payments is called strategic default. This usually occurs in the case of negativernequity and thus may become a factor in HAMP re-defaults as borrower decidesrnthat it makes more economic sense to walk away from a mortgage and rent at arnlower cost than to continue making higher payments that may never result in obtainingrnequity in the property.
The SIGTARP report contains significant conclusions and suggestionsrnfor improvements to HAMP. We will coverrnthese in a third part of this article.
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