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Foreclosures: Help for Homeowners Means Hurt for Banks

The foreclosure crisis is morphing into a full-blown political crisis -- and it's about time. In Washington, lawmakers are urging the Obama administration to investigate whether financial institutions have broken the law in dealing with borrowers at risk of losing their homes. At the local level, legal officials are pressing lenders to cease foreclosures.

Foreclosure Fiasco

House Speaker Nancy Pelosi and 30 other Congressional Democrats said in an Oct. 4 letter to Attorney General Eric Holder, Federal Reserve Chairman Ben Bernanke and Acting Comptroller John Walsh that reports that loan servicers are illegally rubber-stamping foreclosure documents suggests "systemic" problems:
We have heard numerous stories of financial institutions being uncooperative at best or misleading and acting in bad faith at worst. These heartbreaking stories are commonplace, persisting across the state and across lenders and servicers.... [I]t it appears that banks have repeatedly misled and obstructed homeowners from receiving the help Congress and the Administration have sought to provide.

The excuses we have heard from financial institutions are simply not credible three years into this crisis.

Several things are happening here. First, the foreclosure epidemic, until recently mostly a subplot in the national economic drama, is now front-page news. Revelations that some of the nation's biggest financial firms, including JPMorgan Chase (JPM), Bank of America (BAC) and Ally Financial, have "robo-signed" people's homes away have seen to that. With midterms elections only weeks away, Congress has no choice but to sit up and take notice, if only to cover their backs.

Second, more and more homeowners face eviction. One in seven people with a mortgage is past due or in foreclosure, according to the Center for Responsible Lending, a consumer advocacy group. That's up from one in eight in 2009 and one in 11 the previous year.

Third, fundamental flaws in the White House's main anti-foreclosure program, HAMP, are finally blowing up in the government's face. From the outset, the initiative has exerted too little pressure on lenders to work with borrowers in earnest to avoid foreclosure. A telling fact -- more people have been ejected from the program than have successfully completed a mortgage modification.

Fourth, and in a related factor, borrowers aren't getting enough help. Despite claims by large mortgage servicers that they're reaching out to homeowners, data suggests that more than 60 percent of seriously delinquent borrowers aren't getting any assistance from their lenders. That led state banking regulators to raise the alarm in an August report:

[U]nnecessary foreclosures will occur without further efforts and resources of servicers to reach homeowners, and, where appropriate, to offer loan modifications with significant principal reduction.
Fifth -- and most important in assessing the health of the financial industry -- lenders remain plagued with bad mortgages. That bodes ill for banks and investors, and possibly the nation's economic recovery. As horrendous as foreclosures are for homeowners, their implications are even graver for the broader housing market. Notes bank analyst Chris Whalen of Institutional Risk Analytics:
Focusing on the foreclosure mess at the expense of paying attention to the larger, secular threat from the deflation of the mortgage sector could be a fatal choice for American consumers, banks and the nation as a whole.
For financial firms, the most immediate threats are higher borrowing costs, loss of servicing revenue and legal headaches. Credit rating agencies Moody's (MCO) and Fitch are already examining the foreclosure documentation practices of major mortgage issuers and warning of possible credit downgrades. Meanwhile, legal officials in at least seven states are looking into whether lenders faked documents in the course of processing foreclosures. As Ohio's attorney general told Bloomberg:
You're going to see a tremendous amount of activity with all the AGs in the U.S. We have a high degree of skepticism that the corners that were cut are truly legal.
Thousands of borrowers facing foreclosure are sure to mount their own legal challenges, while pressure will mount on courts to take such complaints seriously. What a mess.

Table courtesy of National Mortgage News; image from Flickr user Casey Serrin

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