Explaining Southern California's economy

FHFA's Edward DeMarco doesn't give an inch on mortgage principal reductions

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California Attorney General Kamala Harris has called for FHFA head Edward DeMarco's termination over the agency's refusal to reduce principal on underwater loans.

Edward DeMarco, the acting director of the Federal Housing Finance Agency, isn't backing down when it comes to his long-held view that the two government mortgage giants, Fannie Mae and Freddie Mac, shouldn't reduce loan principal for underwater borrowers. 

In March, Fannie and Freddie produced an analysis that ProPublica's Jesse Eisinger wrote about. It suggested that the FHFA should be empowered to do principal reductions. 

But now the FHFA has released a new study, titled "Review of Options Available for Underwater Borrowers and Principal Forgiveness," that argues against principal reductions and in favor of another option, which I explained in a post that I wrote when I covered Eisinger's reporting:

DeMarco favors principle forbearance. The difference is simple: principal reduction takes a $400,000 mortgage on a home that's only worth $300,000 and writes it down to be a $300,000 mortgage. The $100,000 difference becomes a loss to the taxpayer, but it enables the homeowner to avoid default and provides him with an incentive to stay in the game.

Principal forbearance involves reducing the borrowers monthly obligation, much like in a writedown, but the size of the loan doesn't change. You have a $400,000 mortgage. House is worth $300,000. You can't make the payments and can't refinance because you're underwater. So you get to operate like your have a $300,000 mortgage for a while, but you're still responsible for the $400,000 total.

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You call that a mortgage settlement?

Mortgage settlement

Reuters/Gary Cameron

U.S. Attorney General Eric Holder and U.S. Housing and Urban Development Secretary Shaun Donovan announce that the government and 49 state attorneys general have reached a $25 billion settlement agreement with the five largest mortgage lenders to redress foreclosure abuses, in Washington, February 9, 2012.

UPDATE: California Attorney General Kamala Harris wasted no time in leaping ahead to a provision of the deal that could up the settlement to $45 billion, with California homeowners getting $18 billion. The U.S. Department of Justice says $7 billion, and adds that "[s]ervicers that miss settlement targets and deadlines will be required to pay substantial additional cash amounts." Maybe she doesn't like the size of the stated number all that much, either?

We have a mortgage settlement at last between the big banks and the states. California and New York, the two staunchest holdouts, have signed on. But then there's the actual number: $25 billion (initially reported as $26 billion). It just isn't that much. And although the news of the settlement has been greeting positively, for the most part, it's far from clear that it will ultimately turn the housing market around.

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How long does the government expect borrowers to stay underwater on mortgages?

While Sales Of Existing Homes Rise In July, Prices Continue To Fall

David McNew/Getty Images

A recent ProPublica/NPR report on Freddie May refusing to refinance mortgages for struggling homeowners shows that the market is still coming to terms with new ways of measuring risk.

There's a battle looming between Congress and the Federal Housing Finance Agency, the entity that's been responsible for mortgage giants Freddie Mac and Fannie Mae since the two were taken over by the government during the financial crisis. California and New York are also in the fray, given that those states' attorneys general have been resisting a mortgage settlement with big banks. But that resistance may be collapsing, now that principal writedowns are on the table. Meanwhile, the FHFA remains opposed to writedowns.

So what would principal writedowns entail? Well, the problem many homeowners are up against is that they owe more than their homes are worth. If they paid $300,000, with a 10 percent downpayment, the principal is $270,000. That's what they financed through the mortgage at whatever interest rate they were able to obtain. The monthly expense is made up of a payment that applies to the principal, the interest, and in may cases, insurance and property taxes. (And my example is boilerplate — in some regions, much higher loans, so-called "jumbo loans," make the situation more difficult.)

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