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Mortgage Modifications Don’t Decrease Monthly Payments for Many, Causing Defaults

The Comptroller of the Currency’s new report on the mortgage market in the fourth quarter of 2009 also sheds light on some of the problems reported by borrowers accepting all temporary and permanent modifications (including ones in HAMP) — problems which, left unchecked, will likely lead to higher delinquency rates. In the fourth quarter of 2009, 21 percent of those with modified mortgages saw their monthly payments go down by less than 10 percent, nearly 5 percent saw no change to their monthly payments and nearly 13 percent saw their payments increase as a result of participating in modified mortgage programs. While these numbers are better than a year ago, when nearly 25 percent of borrowers saw no change to their monthly payments and another 25 percent saw an increase in their payments, they’re still not helpful for reining in delinquencies or foreclosures.

How could this be so bad? Although 84.2 percent of modifications in the quarter involved some kind of rate reduction, 82.3 percent involved the capitalization of missed payments and fees — which means that the payments and fees were added to the principle and began to accrue interest. Only 6.8 percent of mortgages involved a principle reduction, despite the fact that the average American homeowner owes $1.14 on a mortgage for every dollar of the house’s assessed market value. Another 6.1 percent involved a principal deferral — which means borrowers would only be making interest payments, not payments on the mortgage itself, which was a key feature of many subprime and predatory loans.

And although the report notes that most modifications involve some combination of actions, 8.7 percent of modifications in the fourth quarter of 2009 involved only capitalization, 4.3 percent involved only a rate and not a single bank offered only a principal reduction. Most combination plans included only the capitalization of missed payments and a rate reduction; about half involved an extension of the life of the loan. Suffice it to say, government subsidies or not, banks aren’t poised to lose a dime on modifications that don’t default.

Since the federally-managed HAMP program requires that people getting modified mortgages have their monthly payments lowered, people participating in the HAMP generally saw their payments lowered by more than 20 percent. Only 6.4 percent of participants had their payments lowered by less than 10 percent. The kinds of modifications HAMP participants received had similar patterns to the aggregate, with approximately 95 percent of borrowers receiving missed payment capitalizations and rate reductions, and around half getting term reductions. Unlike in the broader program, only 0.1 percent of HAMP modifications included a principal reduction, and a rather astonishing 26.8 percent of participants are getting a principal deferral. Modifications made under HAMP accounted for just over 17 percent of all mortgage modifications undertaken by the servicers in the study.

As Neil Barofsky, the Special Inspector General of the Troubled Asset Relief Program, pointed out in his testimony this morning before the House Committee on Oversight and Government Reform, the large percentage of capitalizations and rate reductions is due to the design of the HAMP itself, in which those are the first steps that lenders have to undertake. In effect, by capitalizing missed payments and fees, the HAMP may well be contributing to the sheer volume of underwater mortgages by adding on principal to mortgages on homes that have decreased in value.

The report also highlights the ongoing problem of redefaults by modified mortgage program participants: Of the first wave of participants from the third quarter of 2008, more than 60 percent have again fallen behind on their payments — about the same percentage of people whose payments either went up, stayed the same or went down by less than 10 percent. Almost 58 percent of those who entered into a modification plan in the fourth quarter of 2008 are in the same situation, and those who because modifications in the early part of 2009 appear on track to default at a similar rate. The rate of default starts to slow somewhat for those who started modifications in the second quarter of 2009, though one-third of participants are already in default, that’s significantly lower than the more than 40 percent of older modifications that were in default after the same duration. Only 15 percent of those who began modifications in the third quarter went back into default in the fourth quarter, which is a lower percentage than at the programs inception but still roughly equivalent to the percentage of people (16.4 percent) of people for whom modification brought a higher monthly payment.

But even homeowners that get modified mortgages that lower their monthly payments, like the ones required by HAMP, don’t fare spectacularly well. Nearly 40 percent of modified mortgages given in 2008-2009 in which monthly payments were lowered by more than 20 percent are in re-default after 12 months; 49.5 percent of modified mortgages with monthly payments lowered between 10 and 20 percent are in re-default in the same period; and 55 percent of those with payments lowered less than 10 percent go back into redefault after 12 months. While not broken down by HAMP and non-HAMP participants, it does indicate that modifying mortgages, particularly when they don’t involve principal reductions, tend to only temporarily hold off default and foreclosure.

There is some good news for some borrowers, though: The report shows that more than twice as many prime as subprime mortgage holders were newly enrolled in HAMP mortgage modification trial programs, and almost three times as got many permanent modification plans. Borrowers in both groups were more likely to have banks agree to some sort of modification plan enrollment than initiate foreclosure proceedings.

Correction: Some imprecise language about commercial versus government-subsidized modifications was corrected at the request and with the help of the Comptroller of the Currency’s office, and additional information about government-subsidized modifications was added.

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