President Obama's foreclosure-prevention plan promises to help as many as 9 million troubled homeowners by reducing their monthly payments so they can keep their homes.
One part of that program loosens restrictions to enable more people to refinance at lower interest rates through Fannie Mae and Freddie Mac. Another part will try to bring down mortgage rates by strengthening those two companies.
The third part of the plan Obama unveiled Wednesday is more complicated. It depends on voluntary participation from the investors who own those mortgages and the companies that service the loans. So far, those parties haven't come together to modify most loans, and debate rages over whether this latest government plan will work.
Some people in the mortgage industry think the president's plan is bigger and better than anything they've seen to date. Howard Glaser, an industry consultant and former Housing and Urban Development official in the Clinton administration, is one of them.
"For the last two years, the government has been employing a squirt gun to put out the forest fire in the housing market," Glaser says. "The Obama plan is a howitzer aimed at the problem, by contrast."
Flipping The Calculation
Glaser says previous government and bank plans designed to modify loans haven't worked because it made no financial sense to most of the parties involved.
Even if the borrower — the homeowner — could afford a lowered payment, Glaser says most investors weren't game because investors stood to make more money letting a home go into foreclosure and reselling it than working out a deal with the homeowner.
And the mortgage servicer — the company hired to administer the loan — faced a similar situation. Modifying a loan required more time and paperwork, so the servicer actually stood to lose money.
Obama's plan addresses these issues by throwing money at them, Glaser says. It will pay loan servicers to modify loans, and it essentially will subsidize modified mortgages. In other words, the government will kick in money to make sure homeowners pay no more than 31 percent of monthly income — whether it's less in interest, or less in the principal loan amount.
"It flips the calculation, and in the vast majority of cases will make it a better deal for the investor to modify the loan than seek foreclosure," Glaser says. "That economic driver is everything."
Scott Talbott, senior vice president of government affairs for The Financial Services Roundtable, which represents the financial services industry, says he has yet to hear from investors about whether they'll jump onboard with the Obama housing plan. But he expects they will, because it divides the financial burdens in a way he thinks investors will like.
"The challenge has been trying to allocate the losses between the investor, the lender and the government, and this proposal provides a solution to that problem," Talbott says. "It allocates the losses equally between the lender and the government, which benefits the taxpayer by reducing their mortgage payment."
Identifying The Biggest Pitfall
But for those who have been calling for more concessions from the financial sector, Obama's plan falls short of ensuring that vast swaths of homeowners will get help.
"We'll see how it works. We're hopeful, but we're not optimistic," says John Taylor, president and chief executive of the National Community Reinvestment Coalition.
To make a dent in the foreclosure crisis, Taylor says, the government needed to make the program mandatory. Specifically, he says the biggest pitfall of the Obama plan is that it urges — but does not compel — investors to reduce the principal amount owed on home loans.
"I think what we saw with the redefaults is a lot of loans where there was simply an interest rate reduction," he says. And with home values decreasing rapidly in some places, Taylor argues that just tinkering with a percentage or two in interest rates might help in the short run but eventually lands many homeowners back in trouble.
A more aggressive approach would have involved forcing mortgage investors to sell their assets to the government at their current prices, Taylor says. If the government controls the loans, it could then rewrite them and ensure they become affordable for the long term.
Taylor admits such a plan would very likely have ignited a firestorm among investors.
The debate over how effective this plan will be — and how many people will get help — won't be settled for a couple more weeks. The government plans to release specific eligibility requirements on March 4, when the program begins.