Modifications: Interest reduction, Principal reduction, Payment reduction, and Term increase

In the financial world we don’t measure just the amount of principal. For example if I increased your mortgage principal by $100,000 and gave you 100 years to pay without interest it would be nearly equivalent to zero principal too (especially factoring in inflation). A reduction in the interest rate has an effect on the overall amount of money due from the borrower if (and this is an important if) the borrower is given 40 years to pay AND they intend to live in the house for that period of time. To the borrower the reduction in interest rate and the extension of the period in which it is due lowers the monthly payment which is all that he or she normally cares about.

Nonetheless you are generally correct. And THAT is because the average time anyone lives in a house is 5-7 years, during which an interest reduction would not equate to much of a principal reduction even with inflation factored in. Unsophisticated borrowers get caught in exactly that trap when they do a modification where the monthly payments decline. But when they want to refinance or sell the home they find themselves in a new bind — having to come to the table with cash to sell their home because the mortgage is upside down.

So the question that must be answered is what are the intentions of the homeowner. The only heuristic guide (rule of thumb) that seems to hold true is that if the house has been in the family for generations, it is indeed likely that they will continue to own the property. In that event calculations of interest and inflation, present value etc. make a big difference. But for most people, the only thing that cures their position of being upside down (ignoring the fact that they probably don’t owe the full amount demanded anyway) is by a direct principal reduction.

THAT is the reason why I push so hard on getting credit for receipt of insurance and other loss sharing arrangements, including FDIC, servicer advances etc. Get credit for those and you have a principal CORRECTION (i.e., you get to the truth) instead of a principal REDUCTION, which presumes the old balance was actually due. It isn’t due and it is probable that there is nothing due on the debt, in addition to the fact that it is not secured by the property because the mortgage and note do NOT describe any actual transaction that took place between the parties to the note and the mortgage.

STUDENT DEBT — Reduction Suggested, Especially for Medical Students

The first thing to think about is how many of these student loans were securitized or are subject to claims of securitization and assignments. Based upon anecdotal evidence collected thus far, most of them were securitized. That means that many of the defenses suggested for mortgage foreclosures are equally applicable to student loans. AND it might, as we have previously suggested, provide an opening for avoiding the exemption from discharge in bankruptcy, where student loans ordinarily cannot be discharged.
The level of student debt has exceeded $1 Trillion, which means that either the banks or the government are going to absorb a huge loss financially. If the Banks “Securitized” the loans then they are facing a huge loss if the loans are paid off, which probably explains why the loans were artificially inflated, like the homes. With the homes it was done through fraudulent appraisals using far-out “comparables” that didn’t apply. With private student loans, the banks pushed the students to take on “extra” money for living expenses and even personal expenses that would be considered luxuries.
The reason is as simple as mortgage meltdown. The debts, the fees and the marketing of these debts were all facets in making medicine — the practice and the protocols — all about the money. Doctors or nurses and other medical people who might want to live in a peaceful small town can’t go there because they are required to keep their income up in order to pay back student debt obligations which are non dischargeable in bankruptcy.
The answer coming from economists is that if we value medicine as a society and the current system is not working because people in all places are dying or suffering as a result of money issues, then it follows that if we want a better society, we should turn the vision of medical people from money to the services we need for our society. Sure the banks will and other people who speak from prepared messages from idealogues are going to scream. But their screams are drowned out  by the grief of those who lose loved ones or watch them suffer.
It doesn’t even make sense economically. If doctors and hospitals were able to turn their debt obligations into something that could be managed without turning away patients in need of medical care, our tax dollars would not be used for the extraordinary expenses of Emergency rooms or procedures that are of doubtful value to the patient but that are necessary to meet the expenses of servicing debt.
Costs would immediately be reduced and we would be on our way back from third world status in the effectiveness of our medical care. We would be able to reduce costs so much that we would be spending the same or less than those countries who provide the same level of care but whose effectiveness is extending life and limiting suffering are by all current measurements far beyond American medicine at half the cost. With costs going down, the profit motive would recede as the helping mode kicked in to remove a huge stresser that interferes with American productivity and innovation.
Our worship of money has distorted the individual values we hold dear. Our society no longer reflects those values and is literally paying for it through the nose. A great number of bankruptcies are filed by people cleaned out by medical expenses that are discharged while the providers never see the relief. The debts that are wiped out include all the debts, not just the target debts like home mortgages, credit cards, student loans etc.
So our current system is unfair, it is too expensive only because of the cost of education, which is prohibitive even with loans, and it is by most accounts declining in quality except for certain procedures on which we have still cornered the market.
The same holds true where debt gets in the way of the survival or vitality of any processes operating in our society. Obama has taken care of a portion of this for future students. But the existing ones see no way out. And this false morality based upon money rather than God or moral imperatives is now reducing the number and quality of teachers, firefighters, first responders, police and other social services that cannot attract great teachers or leaders because it offers a lifetime of slavery to debt.
At a minimum, household debt should be reduced (like  Iceland did it) for those who provide essential services and largest parts of household debt are student loans and mortgage debt both of which were pushed onto unsophisticated and unsuspecting victims of a society where money and banking are the measurements of success instead of service to our society that we all need and expect if government is to mean anything.
Any person who provides these essential services should be either exempted from repayment unless their salary allows it through a means test, much like they don in Chapter 7 bankruptcies now. It doesn’t matter whether the debt is technically designated as student debt, or credit card debt, consumer finance or mortgage. The facts are that we are paying more and getting less. Instead of investing in improving the education of providers of essential services we are firing them for lack of money or making them spend time and money on trying to wrangle out of the debt.
The two best places to start are the private student loans in which the risk was non-existent thus encouraging banks to sell larger loan packages to prospective students than they needed, and Mortgage debt which was done the same way. There is no reason why such loans should be sanctimoniously regarded as off limits. Veterans of foreign wars were given their education and help in buying houses at low rates and easy payments without any “resets” that would ruin their lives as they lost their homes and lifestyles. This makes no sense in a society seeking to survive and prosper. We are practically punishing those who serve their country and creating economic barriers to those who would serve their country and who have a lot to offer.
Even as the battle rages over principal reductions to banks who never had any risk in underwriting loans thus producing ever larger loan packages that could never be read we ought to listen to economists who point out that we are spiraling down as a society even though it appears as though the stock market, for the moment is going up. It’s a good place to start.

The Debt of Medical Students



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EDITOR’S NOTE: First let me remind you that this is not a reduction in principal, it is a correction — because the original figures were wrong and everyone but the borrower knew it. The values used in most loans were so far above anything sustainable that it was like driving a new car off the showroom floor — only worse.

Real estate supposedly doesn’t work that way — but it did, which should tell us that something fraudulent was going on. And what bank would allow such valuations if it did proper underwriting, risk analysis, confirmation of values, and confirmation of income of the borrowers? None, unless it didn’t matter to them because they weren’t taking any risk because they were not just getting a guarantee, they were actually getting the money from an undisclosed third party.

Now for plain realism: don’t expect homeowners to stay in homes where they are so far underwater they have no hope of ever getting out. They won’t take it and American ingenuity is already kicking in with entrepreneurs using the same practices as the pretender lenders — only consensually with the homeowners to beat the system just as the banks are beating the system to get free houses without one dime in the deal.

So reality tells us that if we want to stop the foreclosures there must be a correction in the amount due for the so-called loans (which I believe were part of the issuance of unregistered securities and thus not loan transactions even though they looked like loans). Homeowners must have an incentive to stay and pay instead of flee and free. In fact, the figures show that homeowners are in fact willing to accept a debt higher than the value of their home — just not as high as it is now, because it isn’t going to work at these levels. It was not right when they signed the papers and asking them to accept the same fraudulent deal now when things are obviously far worse is ridiculous. They won’t do it.

Therefore without principal reduction foreclosures will grow, housing inventories of places dumped on the market or knocked down back into the dirt are going to continue to grow. The housing industry will continue to drag the entire economy down along with the hopes and dreams of Americans (which is the fuel behind consumer spending, the main thrust of our economy).

Let’s take an example like the article below. In Arizona, the State has said it would actually pay for half the reduction (correction) if the banks would do it. Of course they are addressing the question to the wrong person.  The servicers and pretender lenders have every reason NOT to modify any loan because once it goes into foreclosure they will get the entire house or the proceeds to cover fees that are never reported or disclosed.

So let’s look at a home whose appraised value was $320,000 in 2007. At that time false (made as instructed) appraisals were regularly coming in at exactly $20,000 over the contract amount. So the purchase price was $300,000. The Buyer puts down 20% which is $60,000 and takes out a loan of $240,000. The buyer thinks this is a safe bet because after all the lending bank confirmed the appraisal (which we of course know they did not). Now the house is worth at most $140,000.

In our example, the homeowner has submitted a modification proposal in which the principal would be reduced to $150,000, meaning he is willing to lose another $10,000 on top of the $60,000 he used as a down payment. Arizona would pay $45,000 and the “lender” would only have to eat $45,000. Thus the lender walks away with $45,000 now plus a $150,000 mortgage without any litigation defenses, for a total of $195,000.

If they foreclose, the proceeds will be under $100,000. If they modify they get $195,000. The answer is obvious.

The proposal is virtually always rejected. Why does Fannie Mae and Freddie Mac reject them even though they probably have (a) no right to do so and (b) every reason to allow it as part of the government and (c) every reason to do so because the “investor” (creditor obviously comes out at least 100% better by accepting modification than by going through foreclosure. So obviously someone else is getting a benefit by forcing the investor (creditor” to take less money in the foreclosure than they get could get in the Modification.

This has become a ripe area of litigation. The numbers are so clear that many judges have completely changed their minds about the intent of the borrowers and the intent of the “banks”.

Freddie and Fannie Reject Debt Relief


Home values have fallen so much in Arizona that almost half the people with mortgages there owe more than their homes are worth. So when federal money became available to help stem the tide of foreclosures, the state flagged that group for help.

If banks would forgive some of a homeowners’ mortgage debt, the state said it would pay half, up to $50,000 of a $100,000 loan reduction. Despite the generous terms, most banks balked.

Only three homeowners have been approved for debt reduction since the program began in September 2010. A major obstacle has been that the two largest mortgage guarantors, Fannie Mae and Freddie Mac, will not participate — in Arizona or elsewhere. No loans are eligible for the state’s program if they were bought and held or securitized by the two companies, which are now under government control and guarantee more than 70 percent of the country’s home loans.

“It is extremely difficult for the principal reduction program to be successful” when Fannie and Freddie opt out, said Shaun Rieve, a spokesman for the Arizona Department of Housing.

The companies’ policy against debt forgiveness, or principal reduction, has blocked widespread use of what many have come to believe is an indispensable tool for fixing the housing problem. The state attorneys general have been insisting that debt forgiveness be a part of the multibillion-dollar settlement they are negotiating with big banks over faulty mortgage practices.

Smaller investors and companies that service home loans have stepped up debt forgiveness as well.

Not so Edward J. DeMarco, who as acting director of the Federal Housing Finance Agency oversees Fannie and Freddie. Even though he recently signaled that he might make it easier for homeowners to refinance into more favorable loans, he has held his ground on debt relief. Fannie and Freddie say reducing the principal is bad for business, and as a result bad for taxpayers.

Critics counter that banks and investors have benefited from the government response to the housing collapse while borrowers have largely been left to sink. Last week the inspector general of the Federal Housing Finance Agency said that Freddie Mac had not pursued Bank of America aggressively for compensation for bad loans, despite warnings from a senior staff member.

“It’s sinful, is the word I would use, that they won’t do this,” said John Taylor, president of the National Community Reinvestment Corporation, referring to debt forgiveness. “And the only reason they won’t is they don’t want to realize the red ink that’s already on their books.” They are delaying taking inevitable losses on shaky loans.

White House officials say that although taxpayers essentially own Fannie and Freddie, the administration lacks authority to require Mr. DeMarco to comply with its policies, which encourage principal reduction through a handful of programs. The Federal Housing Administration and the Veterans Administration do not allow principal reduction on their loans either.

Large lenders have long resisted debt forgiveness because of fears that it creates a moral hazard, meaning it could encourage borrowers to take out risky loans in the future because the consequences would not be so bad, or to default to qualify for principal reduction. They argue that other types of loan modifications achieve the same goal.

Proponents of debt forgiveness argue that the failure to reduce debt is hurting the economy, postponing inevitable losses and costing more in the long run. While 28 percent of all loans that are modified go into default again within a year, loan modifications involving principal reduction are more successful. In the latest sign that debt forgiveness might make financial sense to some on the lender side, the nation’s second-largest mortgage insurance company, PMI Group, has found a way around Fannie and Freddie’s policy. PMI, which shares the credit risk in many Fannie and Freddie loans, will pay some underwater homeowners, those who owe more than their home is worth, if they make prompt payments for several years, a de facto principal reduction.

While the company would not disclose what percentage of the principal was covered, a spokesman for the Loan Value Group, which administers the program for PMI, said that on average it was 5 to 7 percent of the loan amount but could be as much as 30 percent.

Fannie and Freddie’s rejection of principal reduction may simply be postponing losses that will occur anyway. Sharon Wells, a retired real estate agent who lives on Social Security, said the modification by Chase Bank of her Fannie Mae mortgage led to an increase in the principal rather than a reduction, even though she already owed about 30 percent more than her home, near Phoenix, was worth.

Ms. Wells, 66, said she had heart trouble and had outlived her doctor’s prognosis, so there was virtually no chance that she would live to pay off the new 40-year term, or that the house would regain its previous value before her death, meaning the lenders would ultimately take the loss anyway. She had been preparing to sell her home and downsize when the market crashed.

“The logical, pragmatic thing, the thing that would have helped this country the most, would have been to write this loan down to a realistic number so we could have the normal buying and selling of homes,” she said.

But Fannie and Freddie maintain that deciding who merits principal reduction raises concerns about fairness. They argue that if future lenders believe there is a chance that borrowers will not have to repay the entire amount, they will price that risk into their loans, raising costs for everyone. The companies say making monthly payments affordable is achieved equally well by forbearance, which allows part of the principal to be subtracted from the calculation of payments and instead tacked on to the end of the mortgage. “We’re not sure what is gained by giving up the right to collect that principal after the forbearance period ends and the borrower has regained financial footing,” said Brad German, a spokesman for Freddie Mac.

But proponents of debt forgiveness say that forbearance does little to increase a borrower’s willingness to pay.

“The banks are trying to shoehorn an affordability fix into a negative equity problem,” said Frank Pallotta, a managing partner of the Loan Value Group, which runs the homeowner incentive program used by PMI. “About 35 percent of all defaults are at least in part strategic,” he said, meaning that even if a financial mishap like job loss is behind a homeowner’s decision to stop paying, being underwater is a factor.

About one in five homeowners with a mortgage is underwater, and the total amount of negative equity is estimated at $700 billion to $800 billion. While many of those borrowers are coping with self-inflicted wounds, the problem is not limited to subprime loans.

Among mortgages backed by Fannie and Freddie, a vast majority of which are prime, the percentage of underwater homeowners is virtually the same as the percentage among all mortgages. The scope of the problem has led to calls for an across-the-board write-down, a solution that is expensive, impractical and unnecessary, says Mark Zandi, an economist at Moody’s Analytics.

“I don’t think the problem is as deep as people think,” Mr. Zandi said. Just enough principal reduction is needed to shrink the share of foreclosed homes on the market, which would allow prices to rise, he said. Homeowners would be less likely to default if prices were increasing, he added. Servicers providing principal reduction have devised ways to limit moral hazard. In Arizona, the program was restricted to homeowners with moderate incomes who had resisted taking out equity loans in the boom. Ocwen Loan Servicing, whose loan modifications top the national average, intensively evaluates the homeowner’s budget before determining if principal reduction would result in a net gain for the investor, who otherwise might face a steeper loss in foreclosure.

After a successful trial program, Ocwen, based in Atlanta, has also begun offering shared appreciation plans, in which part of a borrower’s principal is forgiven, but if the home is eventually sold at a profit, the owner must share that profit with the lender.

As for moral hazard, Steve Bailey, chief servicing officer at PennyMac, a California company that bought shaky loans, said that failure to cut principal was to blame, not the other way around.

“A loan that is modified and left at 200 percent loan-to-value invites the moral hazard,” he said. “You’re telling a person that they need to live in this house that’s severely underwater, paying more for housing than they need to, and looking around their neighborhood at homes that have gone through foreclosure and are available for much less.”

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