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Obama’s New Mortgage Modification Plan Relies on Banks’ Beneficence

President Obama today unveiled his administration’s fourth attempt to stave off the worst effects of the mortgage and housing crisis, the latest in a series of efforts that started with the Home Affordable Modification Program and now includes special assistance for the hardest-hit states and incentives for banks to allow buyers to sell their underwater homes short. The new program does resolve one major problem with the HAMP: its lack of incentives for lenders to forgive any of a borrower’s principal on underwater mortgages. According to The Wall Street Journal:

Lenders are to receive 10 to 21 cents of federal subsidies per dollar of loan principal reduced, depending on the degree to which the borrower is underwater.

That has the potential to be a larger incentive for some lenders than even allowing a short sale on a property that is underwater. The principal would be reduced over the course of three years, though many mortgage modification participants default within a year, and only borrowers who owe more than 115 percent of the value of their home will be eligible. The average homeowner in America today owes 114 percent of the current market value of their home.

Additionally, the FHA will try to convince lenders to refinance current loans with FHA-backed loans at something resembling market value — but that program will be entirely voluntary. For homeowners to get an FHA-backed loan, the lender must forgive at least 10 percent of the outstanding mortgage and allow homeowners to refinance at 97.75 percent of a home’s current value. For the average homeowner today, that means a lender would have to forgive 16.25 percent of the current mortgage of their own free will. For people who have second mortgages, the FHA will allow them to refinance for a total value on both mortgages of up to 115 percent, but that would require that two lenders agree out of the kindness of their hearts to forgive substantial portions of a homeowner’s debt. The only incentive for lenders will be good PR and potentially fewer immediate foreclosures.

The remaining helpful part of the new program will subsidize unemployed homeowners’ mortgage payments for three to six months until they find a new job. Of course, as the jobless recovery continues, more and more people are employed for longer than three to six months, so this might or might not be helpful for anything more than staving off foreclosures for three to six months — which, as many people are discovering, is the main result for most people. As it is, the administration admits that it expects another 10 to 12 million foreclosures over the next three years while these programs help no more than three to four million homeowners remain in their homes.

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