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Designing loan modifications to address the mortgage crisis and the making home affordable program

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Author Info

  • Larry Cordell
  • Karen Dynan
  • Andreas Lehnert
  • Nellie Liang
  • Eileen Mauskopf

Abstract

Delinquencies on residential mortgages and home foreclosures have risen dramatically in the past couple of years. The mortgage losses triggered a broad-based financial crisis and severe recession, which, in turn, exacerbated the initial financial distress faced by homeowners. Although servicers increased their loss mitigation efforts as defaults began to mount, foreclosures continued to occur in cases where both the borrower and investor would be better off if such an outcome were avoided. The U.S. government has engaged in a number of initiatives to reduce such foreclosures. This paper examines the economic underpinnings of the Administration's loan modification program, the Home Affordable Modification Program (HAMP). We argue that HAMP should help many borrowers avoid foreclosure, as its key features—a standardized protocol, incentive fees for servicers, and a requirement that the first lien mortgage payment be reduced to 31 percent of gross income—alleviate some of the previous obstacles to successful modifications. That said, HAMP is not well-suited to address payment problems associated with job loss because the required modification in such cases would often be too costly to qualify for the program. In addition, the focus of the program on reducing the payments associated with the mortgage rather than the principal of the mortgage may limit its effectiveness when the homeowner's equity is sufficiently negative. In this case, recent government efforts to establish a protocol for short sales should be a useful tool in avoiding costly foreclosure.

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File URL: http://www.federalreserve.gov/pubs/feds/2009/200943/200943abs.html
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File URL: http://www.federalreserve.gov/pubs/feds/2009/200943/200943pap.pdf
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Bibliographic Info

Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series Finance and Economics Discussion Series with number 2009-43.

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Date of creation: 2009
Date of revision:
Handle: RePEc:fip:fedgfe:2009-43

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Related research

Keywords: Mortgage loans ; Foreclosure;

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Cited by:
  1. Agarwal, Sumit & Amromin, Gene & Ben-David, Itzhak & Chomsisengphet, Souphala & Evanoff, Douglas D., 2010. "Market-Based Loss Mitigation Practices for Troubled Mortgages Following the Financial Crisis," Working Paper Series 2010-19, Ohio State University, Charles A. Dice Center for Research in Financial Economics.
  2. Agarwal, Sumit & Amromin, Gene & Ben-David, Itzhak & Chomsisengphet, Souphala & Evanoff, Douglas D., 2011. "The role of securitization in mortgage renegotiation," Journal of Financial Economics, Elsevier, vol. 102(3), pages 559-578.
  3. J. Michael Collins & Carolina Reid, 2010. "Who receives a mortgage modification? Race and income differentials in loan workouts," Community Development Investment Center Working Paper 2010-07, Federal Reserve Bank of San Francisco.
  4. Been, Vicki & Weselcouch, Mary & Voicu, Ioan & Murff, Scott, 2013. "Determinants of the incidence of U.S. Mortgage Loan Modifications," Journal of Banking & Finance, Elsevier, vol. 37(10), pages 3951-3973.
  5. W. Scott Frame, 2010. "Estimating the effect of mortgage foreclosures on nearby property values: a critical review of the literature," Economic Review, Federal Reserve Bank of Atlanta.

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