By Clea Benson
February 13, 2015
(Bloomberg) — Mel Watt, the regulator of Fannie Mae and Freddie Mac, met last month with about two dozen homeowners who owe more on mortgages than their properties are worth.
The Americans told Watt of their financial struggles in his Washington office for almost two hours as he contemplates one of the toughest decisions in his first year overseeing $4.5 trillion in mortgage debt backed by the two companies.
Seven years after the housing market collapse, about 8.7 million U.S. borrowers remain underwater, placing Watt at the center of a political fight over how, or whether, to help them. Democrats including Senator Elizabeth Warren have criticized Watt for delaying debt reductions to prevent more foreclosures, while government-controlled Fannie Mae and Freddie Mac post healthy profits. Republican lawmakers have found fault with his efforts to ease conditions for borrowers because of the potential cost to taxpayers.
“We’re walking a tightrope here,” Watt, the head of the Federal Housing Finance Agency, told reporters in a meeting last week.
Watt, a former Democratic Congressman who took over at FHFA in January 2014, said he’s still conducting studies to come up with a narrow principal-reduction program that won’t hurt Fannie Mae and Freddie Mac’s finances.
8.7 Million Homes
Rising home prices in many areas are changing the calculations for Watt. Zillow, a real estate data provider, estimates that about 17 percent of homes with mortgages have negative equity, down from a high of 31.4 percent in 2012. Underwater mortgages are becoming more localized in areas where the housing market is still struggling, such as Atlanta, Chicago, Las Vegas and Detroit.
“The number of people who are going to be helped from this is going to be less that it would have been years ago, both because home prices have gone up and you’ve tried other loan modifications that may not have been successful and people have lost their homes,” said Laurie Goodman, director of the Housing Finance Policy Center at the Urban Institute. “I’m sure there are borrowers who would still be helped.”
Tony Romano, a spokesman for the Right to the City Alliance, the borrowers’ group that met with Watt in January, said lower-income Americans need the most help. Zillow’s numbers show most negative equity is concentrated in properties with the lowest prices; among homes in the bottom third of values, one in three are underwater nationally. Only one in 10 homes in the top third have negative equity.
Romano said Watt should limit federal assistance to borrowers with modest incomes who are mired in debt on their primary residences.
“We are not talking about millionaires who have five homes and want to do principal reduction,” he said. “We are talking about folks who are hardest hit.”
Watt, 69, said he wants to make sure that his program doesn’t give incentives to borrowers who are paying their mortgages to default, adding to costs for Fannie Mae and Freddie Mac. The mortgage firms were seized by regulators in 2008 after losses on risky loans brought them to the brink of bankruptcy. Edward J. DeMarco, Watt’s predecessor, rejected principal reduction because of similar concerns that it would spur defaults and jeopardize the solvency of the companies.
“Eighty-five to ninety percent of people whose mortgages are underwater have continued to pay that mortgage,” Watt told reporters. “You don’t want to start encouraging people to default.”
Block of Granite
Watt said another issue is what to do with a group of borrowers he described as a “block of granite:” people who haven’t paid their mortgages for a long time and who are severely underwater.
“The question is, if you did principal reduction, would they come back” and make payments again, he said.
Goodman said her analysis shows debt reductions are most effective for borrowers who aren’t severely delinquent. She said principal reduction also makes financial sense for Fannie Mae and Freddie Mac in many cases.
“The bottom line is, these are mortgages that Fannie and Freddie are going to lose money on, because by and large these are loans you’re going to end up liquidating at the end of the day,” she said.
Republicans, including Senator Pat Toomey of Pennsylvania, say mortgage debt cuts give an unnecessary break to borrowers at the expense of taxpayers.
It is “never a good idea” to do principal reductions, Peter Wallison, a fellow at the American Enterprise Institute in Washington, said. They are just a way to “relieve the pressure on a lot of people who are underwater and use the government and taxpayers’ resources to do that,” he said.
Democrats led by Warren, who has made helping lower- and middle-income families her focus in the Senate, are pushing the regulator take action.
“You’ve been in office for nearly a year now and you haven’t helped a single family, not even one, by agreeing to a principal reduction,” Warren told Watt at a Senate hearing in November. “I want to know why this has not been a priority for you.”
The FHFA director has begun experimenting with ways to reduce the debt of some borrowers. Under one program in Detroit called the Neighborhood Stabilization Initiative, Fannie Mae and Freddie Mac are selling loans to nonprofit groups that can reduce the principal if they believe it helps keep borrowers in their homes.
FHFA also began last year allowing the transfer of foreclosed properties to nonprofits that sell them back to the original owners at the current market price.
These small efforts provide a hint of what Watt might offer in a national program.
“I think it will be substantially narrower than the vision people have,” Watt said. “Reducing everybody’s principal would cost taxpayers billions.”
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