Only 49% Of US Modified Mortgages Have Lower Payments

Speaking of the challenges involved with modified mortgages:

From the WSJ:

While modifications are designed to keep owners in their houses, by the time they are worked out, borrowers often are well behind on their loans. Lenders often add these past-due amounts — which can include principal, interest, taxes and insurance — driving monthly payments higher. At the same time, lenders have been reluctant to reduce principal even for borrowers who owe far more than their homes are worth.

Higher loan payments may make sense in limited cases, but they increase the likelihood of the modification failing, critics say. “If you restructure a loan so that people pay the same or pay more, it’s probably not going to work,” said Iowa Attorney General Tom Miller.

Thirty-eight percent of recent loan modifications resulted in increased payments for borrowers, according to an analysis by Alan M. White, a professor at Valparaiso University School of Law in Indiana, while 13% resulted in no change to payments. The study looked at more than 23,000 modifications between Dec. 26, 2008, and Jan. 25, 2009, involving subprime mortgages and Alt-A loans that were packaged into securities.

Mortgage servicers try to structure payments so they are affordable to borrowers, said Jay Brinkmann, chief economist of the Mortgage Bankers Association. Where payments rise as a result of modifications, he says, the increases are often modest.

There are some signs mortgage companies are becoming more aggressive when helping troubled borrowers. Twelve percent of recent loan modifications included some forgiveness of principal, interest and fees, according to Prof. White, compared with 10% in November and 2% between July 2007 and June 2008.

Still, the lack of payment relief may help explain why so many borrowers are falling behind. Forty-nine percent of borrowers redefaulted within six months after receiving a modification that increased their principal and interest payments by 10% to 20%, according to ratings company Fitch, compared with a 21% redefault rate for borrowers who saw their payments fall by 20% or more.

Graphic courtesy of the WSJ

The first thing to consider when reading this is that we don’t know what type of mortgages were looked at for this study, in terms of fixed rate, ARM, option ARM, interest only, etc. This information would give us significant insights into whether or not the structure of the loan limited the lender’s options as far as a modification.

For instance: even if a lot of back payments have been added to the mortgage’s principle, you can lower the payment on ARM that has recently reset just by lowering the interest rate. However an option ARM or negative amortization loan may be trickier, because the principle may have grown by 10, 20, 30% even before the back payments are factored in. Interest only loans are another wrinkle as the person may wish to be modified into a standard fixed rate mortgage, but now is faced with having to pay principle as well. You may also have people who are having trouble paying the teaser payment, whether it’s the ARM teaser rate, minimum payment for an option ARM, etc, etc.

Furthermore you may have situations where the person just faced a temporary income loss, and will have no problems paying a higher payment over the short-term in order to get caught back up.

Needless to the ability to reduce payments is often a function of the type of mortgage, and whether that payment makes sense is a function of the person’s finances. The 49% default rate could be a function of people just being in untenable situations, more than it is a function of the higher payment in of itself.

Still the failure of mortgage modification becomes pretty apparent when you see that only 1/2 of the borrowers receive lower payments, but whether that’s a function of servicer’s not being flexible enough or the nature of the mortgages themselves remains to be seen. Especially when we don’t know if the borrower is in this situation due to overspending, or due to circumstances beyond their control like job loss, medical expenses, divorce, etc.

The real challenge for any sort of broadband mortgage rescue program will be in differentiating between the types of borrowers in trouble, and understanding that certain borrowers simply cannot be rescued from their situations without some sort of subsidy and/or forgiveness of interest and principle.

Source:

The Wall St. Journal: “Housing Fix’s Challenge: Making Modified Loans Attractive” — Ruth Simon, February 18, 2009.

Disclosure: at the time of publishing the author didn’t own a position in any of the companies mentioned in this article; the ideas expressed are solely the opinions of the author and shouldn’t be viewed as financial or investment advice.

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