New Loan Fix Is Unlikely the Last

WASHINGTON -- The government's latest plan to help struggling homeowners eliminates a major bottleneck by giving mortgage investors more incentive to agree to refinancings. But lawmakers said Thursday they might go further after the November election and force reluctant investors to do more.
[FDIC Chairman Sheila Bair told lawmakers Thursday about new steps being weighed to prevent foreclosures.] Getty Images

FDIC Chairman Sheila Bair told lawmakers Thursday about new steps being weighed to prevent foreclosures.
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Senate Hearing Focuses on Homeowners
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WSJ's Damian Paletta walks us through the measures being considered by the U.S. government to help homeowners facing foreclosure. (Oct. 23)

At a Senate Banking Committee hearing, FDIC Chairman Sheila Bair confirmed that "the FDIC is working closely and creatively with Treasury" on the the new initiative. The roughly $40 billion plan would encourage mortgage investors to permit struggling homeowners to refinance by having the government guarantee part of the rewritten loans.

Sen. Christopher Dodd (D., Conn.), the Banking Committee chairman, said he was considering a new round of legislation after the November election to address problem mortgages, including changes to allow bankruptcy judges to rewrite them. "I think we've come to the point again where...legislatively we have to try this again and probably some other ideas," he said.

With the U.S. and global economies at risk of recession, policy makers are racing against time to keep the housing market from continuing its steep decline and worsening the broader slowdown. But officials have run into problems persuading investors to rewrite mortgages on more affordable terms, often because of the losses entailed.

Neel Kashkari, the Treasury Department's interim assistant secretary for financial stability, who also testified before the panel, said Treasury was working on new policies to prevent foreclosures. He said the department was "passionate about doing everything we can to avoid preventable foreclosures."

The struggles over how to fix troubled loans, more than two years after the problems began to emerge, reflect the complexity of the mortgage business, thanks to the way loans have been packaged into securities that effectively divide ownership among many investors. Before they can alter a loan, mortgage servicers generally have to show it is better to refinance than foreclose, or they run the risk of being sued by investors.

The latest plan being developed by Ms. Bair and Treasury officials would try to untangle the mess by offering a government guarantee of repayment for some part of the rewritten loan. That might demonstrate that struggling homeowners would be able to repay the new loan, experts say.

"If you throw a Treasury guarantee in, then the net present value [of the new loan] becomes luminously clear," said Karen Petrou, managing partner of Federal Financial Analytics, a consulting firm. "Then it's far easier to refinance."

During the hearing, Sen. Dodd said he spoke with Treasury Secretary Henry Paulson Thursday morning about the plan to spur more loan modifications, and his impression was that the secretary is "determined" to get the program up and running.

Mr. Kashkari seemed hesitant to fully endorse the plan on Thursday and suggested the administration is weighing how the new initiative would mesh with existing programs. In addition, issues are being raised about how the costs would be accounted for, Mr. Dodd said after the hearing.

Provisions for offering new government loan guarantees were a little-noticed part of the $700 billion banking-rescue bill that the Bush administration pushed through Congress earlier this month. That bill says that in addition to other programs created in the legislation, the Treasury Department "may use loan guarantees and credit enhancements to facilitate loan modifications to prevent avoidable foreclosures."

Some analysts say the loan-guarantee provision doesn't appear to be subject to the bill's overall $700 billion limit, so the government's power to help rewrite mortgages is even broader than it is for aiding banks.

Ms. Bair said the incentive could make a servicer's decision to modify a loan "more powerful, if not irresistible." She said such a plan could allow foreclosure prevention on an industrywide basis, rather than the current ad hoc process.

There are signs that Ms. Bair, an early advocate of more ambitious actions to stop foreclosures, is gaining traction with fellow federal officials. Federal Housing Finance Agency director James B. Lockhart, who also testified before the panel, echoed Ms. Bair's appeal for more loan modifications. "The most critical components of stabilizing the mortgage market are assisting borrowers at risk of losing their homes and reducing foreclosures," he said.

Some industry players say the new government initiative is just one addition to its piecemeal approach. That began with a voluntary mortgage modification program announced by the Bush administration in August 2007, and continued with a housing bill passed by Congress in mid-2008 that used the Federal Housing Administration to guarantee some rewritten loans.

"We'd love to do across the board [modification] but this doesn't seem to do it," said Anne Canfield, executive director of the Consumer Mortgage Coalition, a group that represents mortgage servicers.

In the hearing, Mr. Kashkari said some preventable foreclosures were occurring because homeowners were reluctant to contact their lenders, which he called the "hardest part" of the loan-modification process.

Sen. Dodd responded: "Why can't the lender make that call? They know they have a customer, a borrower in trouble."

Mr. Kashkari said lenders should be trying to reach troubled borrowers. "They need to be making these calls," he said.
—Maya Jackson Randall contributed to this article.

Write to John D. McKinnon at john.mckinnon@wsj.com and Jessica Holzer at jessica.holzer@dowjones.com