FIN-Mortgage Deal Is Built on Tradeoffs

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Mortgage Deal Is Built on Tradeoffs


By NICK TIMIRAOS

Banks won a handful of concessions in the landmark $25 billion settlement of alleged foreclosure abuses, as federal officials struck a balance between their desire to be tough on lenders and the need to provide immediate relief to the housing market.

A key sticking point in the year-long negotiations was how to structure mortgage write-downs, and who should bear the losses.

The banks that are party to the settlement—Ally Financial Inc., Bank of America Corp., Citigroup Inc., J.P. Morgan Chase & Co ., and Wells Fargo & Co .—heavily and publicly resisted initial government proposals that they absorb the hit for write-downs of loans held by investors for which the banks collect payments. They argued that doing so amounted to transfers of wealth to Fannie Mae, Freddie Mac, and investors in mortgage-backed securities such as hedge funds and pensions.

Banks agreed to cut loan balances, a step they had long resisted, but they won't only get credit against their shares of the $25 billion settlement for reducing balances of loans they own. In some cases, they can receive partial credit if investors shoulder the cost of writing down loans the banks service. The banks also will receive credit for some steps they are already taking, such as approving short sales, where a home is sold for less than the amount owed, according to draft settlement documents reviewed by The Wall Street Journal.

Those concessions to lenders allowed federal officials to achieve the large dollar figure and to secure relief that will reach more borrowers. Banks, meanwhile, would be able to provide aid at a lower cost to their bottom lines.

Settlement documents, which could be filed in court as soon as Monday, will detail the formulas governing how banks gain credit for that aid, as well as new standards banks will have to follow when they deal with borrowers who face or go through foreclosure.

The mix of remedies in the settlement highlights the central tension behind the protracteddiscussions: Should the deal be structured primarily to punish banks, or should it use allegations of wrongdoing to pressure banks to provide relief that would keep more borrowers in their homes?

The final deal could help more borrowers, but "the banks are accelerating a loss that they're probably going to have to take anyway on what are generally significantly underwater mortgages," said Daniel Alpert, managing director at Westwood Capital, an investment-banking firm that has purchased distressed mortgages. "Is this in fact a penalty?"

When talks began a year ago, state attorneys general and the Obama administration took the view that investors, and not just homeowners, had been harmed by banks' missteps in foreclosing on homeowners or granting loan modifications. But those officials have also long argued that reaching a quick settlement that provided borrowers with immediate help would be preferable to litigation that wouldn't yield benefits for years.

Of the total $25 billion settlement, around $5 billion will be paid as fines. An added $3 billion will be used to help homeowners who owe more than their homes are worth refinance. To pay the remaining $17 billion, banks will receive credits for helping troubled borrowers, of which $10 billion goes toward cutting loan balances for borrowers who are underwater, owing more than their homes are worth.

The actual amount of loan forgiveness isn't large relative to the problem of underwater debt. The settlement's complex set of requirements mean that about 500,000 borrowers, or 5% of those who are underwater, may be eligible for help according to estimates from Ted Gayer, co-director of economic studies at the Brookings Institution.

The deal still provides the largest mandatory principal reduction in the financial crisis to date. Shaun Donovan, the secretary of the Department of Housing and Urban Development, said officials made that push because they believed breaking through the industry's "aversion to principal reduction" could be "truly catalytic" in addressing how banks modify mortgages.

An Ally spokeswoman said the agreement will advance efforts to provide borrowers with "affordable and sustainable payment relief whenever possible." The settlement also "brings more certainty to the housing market, and aligns our ongoing commitment to...get the housing market back on track," said a Bank of America spokesman.

Representatives for Wells Fargo, J.P. Morgan, and Citi declined to comment.

The final chunk of the settlement—$7 billion—goes toward other aid, including approving short sales and for granting deeds-in-lieu of foreclosure, where a homeowner voluntary surrenders the home. Those provisions largely allow the banks to satisfy the pact without incurring new expenses because they are already approving tens of thousands of such transactions.

Banks can satisfy up to 10% of the $17 billion in credits, for example, by waiving the right to pursue deficiency judgments on mortgages that have recourse, such as home-equity loans. Lenders have pursued those judgments only in limited cases. Banks can satisfy up to 5% of the credits by providing more generous relocation assistance to foreclosed homeowners.

Mr. Donovan said the deal had been structured "to provide a set of options that we hoped would catalyze the way banks deal with homeowners." The potential for banks to earn credit by waiving deficiencies is meaningful because those deficiencies can stay on a borrower's credit record for years, he said. "There is a real hammer...hanging over the heads of families."

Source: www.online.wsj.com