A Time for Good Judgment by Martin Andelman

by 29 Oct 2009

The jury is in. We need judges to modify the way banks behave.

Okay, first of all… you’re not buying any of this “the recession has ended” nonsense, are you? Because if you’re one of “them,” then I’m really not sure there’s a whole lot I can say to you except maybe… well, no… actually there’s nothing I can say to you that you’ll find interesting. Just go back to trading your stock portfolio, buying REOs, and loading up on Citigroup, or whatever it is that you guys do these days.
To everyone else… I have a question: At this stage of the foreclosure crisis, is there any doubt that we need some sort of lender and mortgage servicer reform? I’m only asking because it’s hard for me to imagine that there’s anyone, at this stage of what’s definitely not a game, that wouldn’t readily agree, the American Bankers and Mortgage Bankers Associations, Financial Services Roundtable, and American Securitization Forum, et al, notwithstanding.
In point of fact, I don’t think there can be any doubt that lenders and mortgage servicers in this country are working solely in their own best interests, and it should be just as clear that those interests are not aligned with the interests of anyone else; not the investors they’re supposed to protect, not the borrowers whose lives have been torn apart but will someday recover, and certainly not our nation as a whole. The Obama administration has tried to address this situation, but to be entirely candid, their efforts to-date have been limited to a voluntary program, offering what many would describe as meager financial incentives, some stern language and a few public relations efforts. And let’s not dress this thing up… it’s not working.
In August, the administration made public the servicer “report cards,” the thinking being that the servicers would be publicly shamed into improving their performance relative to their peers, and were the servicing industry capable of shame, or in other words, if the servicers gave a hoot what regular people thought of them, it might have been effective to some degree. 
As it is, however, all it should have done was show the country that no one, not even the President of the United States, is capable of making the lenders and servicers do what they don’t want to do. President Obama, Secretary Geithner, and just about everyone in Congress tell them to modify mortgages… they write them a check for a few hundred million… and the lenders and servicers say “no problem,” and then return to doing pretty much whatever they darn well please. And why shouldn’t they? What’s the president or anyone else going to do to them? I mean, absent government support, they’re already insolvent. And they know he’s not going to let them fail no matter what.
Of course, that’s not how the servicers would describe it… they’d say, to borrow a line from ex-President Bush: “It’s hard work.” And there’s no shortage of highly compensated apologists running about explaining that servicers are “overwhelmed,” as if there should be an outpouring of sympathy from the general public. Poor servicers… having to deal with all those “irresponsible homeowners” who didn’t see the absolute destruction of the capital markets coming around the corner the way nobody else did. Being a servicer is hard. Boo-hoo.
Judging Servicers
I see, so Bank of America expects us to believe that they simply cannot figure out how to answer the phone. Anything over a few thousand calls a day and the place basically shuts down. I understand… it’s hard to answer the phone… all those buttons, don’t you know. 
Chase? Well poor Chase can’t seem to hire anyone. They’re having a dickens of a time finding good help. Understandable. The financial sector is running at full employment, after all. And as to Wells Fargo? Well, the banking types at Wells just can’t stop losing borrower submitted paperwork… over and over again. It must be hard to stop bank employees from misplacing things.
I can’t even listen to this drivel anymore. Bank of America has 40 million credit card holders, and you can call the toll-free number on the back of their cards 24/7, get a live person within a couple of minutes, and he or she can tell you how much interest you paid in 2005 and where you bought gas last Thursday… even if you’re calling on Christmas Eve. Chase could have hired every man, woman and child in the state of Florida by now if they’d wanted to. And Wells Fargo? Okay, fair enough. I have no trouble believing that Wells is telling the truth when they say they can’t stop losing stuff.
The story of servicers being overwhelmed might have been mildly interesting 18 months ago… maybe, but today? We’ve given them enough money to float the Titanic, which is metaphorically exactly what they are in terms of their financial realities. So, if they wanted to be efficiently modifying loans, you can bet your soon-to-be-foreclosed farm that they’re more than capable of doing so right now.
And who could ever forget the dumbest argument of the new millennium: “Loan modifications don’t work because a huge percentage of borrowers re-default.” We should all understand that the term “loan modification” is a synonym for “lower your monthly payment,” so to say “they” don’t work is evidence of a beautiful mind. I remember how I felt when I learned that more than half of the modifications in 2008 resulted in borrowers having a higher monthly payment. I thought to myself: “Hmmm… I wonder if that could be why they’re “not working. Maybe someone should study that.” Morons.
The next installment in the servicer’s excuse-of-the-month club was the very popular: “It’s not our fault, the investors made us say no.” Oh, did they now? Which investors would those be? Must be the ones that refuse to maximize their own returns? That makes about as much sense as Bank of America being phone challenged. Why would an investor refuse to modify an underwater mortgage in this market, when the alternative is almost always more costly? It’s absurd, and I hate being treated like I’m six.
Nonetheless, almost everyone bought into this lie over this past summer, and I think the bankers figured that since you had to read a 600 page pooling and servicing agreement to determine whether they were full of crap or not, no one would. It worked for a while, but now having read quite a bit more on the subject, I’ve come to realize that the vast majority of investors have about the same amount of clout with servicers as do borrowers. 
Servicers essentially never get fired. And unless there’s some creepy hedge fund lurking in the finely manicured hedges, what it says in most servicing agreements is basically that the servicer must take steps to maximize the returns for investors, something they almost never do. In a phrase, it’s not the investors that are holding things back.
Further proof of this could be seen in September when Impac Funding, an investor that uses Bank of America Home Loans and GMAC to service many of their mortgages, started contacting borrowers directly with offers to help homeowners modify their loans. It seems that Impac had grown tired of sitting back watching their servicers foreclose instead of modify, and in at least one case, a borrower’s loan was modified in 72 hours. When you think about all of the millions of foreclosures that have already transpired, that is absolutely sickening. And according to a source close to Impac, the results have already improved their returns, so what do you know about that.
So, what’s the next faux impediment to modifications going to be? Rumor has it that the banks are starting to pull credit reports in conjunction with applications for loan modifications, so that should slow things down pretty good right there.
What’s the answer? Well, we could ask Sec. Geithner to give the lenders and servicers another stern talking to, but we’ve just ended our sixth straight month of foreclosures above the 300,000 mark, with August coming in at 356,000, give or take, so it’s not exactly a plan likely to inspire widespread confidence. As it stands, we’re forecasted to end 2009 with a staggering 3.6 million foreclosures for the year, and all forecasts point to even more in 2010 and 2011.
We could allow the banks, that absent the fairytale accounting rules that shun mark-to-market, and the trillions in government support provided in one form or another, to fail and then impose strict requirements that… oh yeah… sorry… never mind. I was dreaming there for a minute.
Here Comes the Judge
The answer is to reform the bankruptcy code to allow ‘judicial foreclosures,” which is simply another way of saying to lenders and servicers: “If you won’t do what you’re supposed to, we’re telling Dad.”
A bill that would allow bankruptcy court judges the discretion to write down mortgages on primary residences for homeowners filing bankruptcy has already been defeated twice. These judges are already allowed to do this on just about every other loan… second homes, commercial property… but not on primary residences. 
I have to admit something… I ignored the bankruptcy reform bills both times. I didn’t even get it. One side called it the “cram down,” which didn’t sound all that appealing to my ears at the time. I was focusing all of my attention on what the administration was going to do to stop the foreclosure crisis and I had no time for “cram down” bills. Shrewd thinking on my part, I’m aware.
Here’s the really interesting thing about this proposal that I’ve only recently come to understand: If judges were allowed to write down primary mortgages for those in bankruptcy… they’d rarely if ever be given the chance to do so. 
The truth about this proposed change to the bankruptcy laws is that it simply creates a meaningful threat to lenders and servicers who refuse to modify mortgages, a big fat stick, if you will. If the $50 billion in incentives that the Making Home Affordable program offers lenders and servicers for modifying mortgages represents a “carrot,” then allowing bankruptcy judges to write down mortgages on primary residences is “the stick”. And I think it’s pretty clear that today’s lenders and servicers need to be hit with a stick in order to get them to do what we, as a nation, very much need them to do. Nothing else has worked, and we are all suffering as a result.
“It’s very discouraging at times,” says attorney Tim McFarlin of McFarlin & Geurts, whose offices are in Southern California. McFarlin is an experienced bankruptcy attorney who expanded his practice to help homeowners in need to loan modifications over a year ago. “We get them done… eventually,” Tim explains, “but that can mean five, six, seven months or longer.” 
“It’s clear that the servicers aren’t motivated to do anything quickly, there’s often no rhyme or reason to their behavior, and they do everything possible to give attorneys a hard time. I don’t see that changing without some sort of reform that allows for judicial modifications. Unless they see themselves potentially standing before a judge in the future, they’re not going to play nice on their own… why would they? Homeowners in distress are hardly prepared to file lawsuits against giant financial institutions. And the financial institutions know that. They can do pretty much whatever they want with impunity,” explains McFarlin.
If its been said once, its been said so many times that its hard to believe that it’s not front page news every single day… our economy cannot recover without the foreclosure crisis coming to an end. Foreclosures destroy property values… everyone’s property values. And they breed more foreclosures, because people spend less… corporate profits drop, prices begin to fall… companies layoff workers, unemployment rises and foreclosures increase. Today, more than 40% of foreclosures are being caused by unemployment. 
There’s no such thing as a jobless recovery, and even if by someone’s definition there is, it’s not something anyone would enjoy. Bernanke’s latest proclamation that the recession is “probably over,” which was largely based on a recent increase in retail sales, failed to mention that the “Cash for Clunkers” program, higher oil prices, and the seasonal impact of back-to-school shopping fueled that rise. Remove those factors and retail sales fell that month by more than they have since my mother was listening to the Andrew Sisters performing live at Atlantic City’s Steel Pier.
Unemployment continues to rise, property values continue to fall, and if it weren’t for the $8,000 real estate tax credit, it’s highly unlikely that home sales would be having their fleeting moment in the sun. I know… the stock market has been going up, but one would be wise to remember that markets that go up without fundamental basis have the very definite tendency to reverse their course abruptly, and often in mid-autumn. I’m not giving advice, by any means, I’m just saying.
All of that notwithstanding, the simple fact is that foreclosures are continuing to destroy the value of the mortgage backed securities that are still right where they were last fall… on the balance sheets of our nation’s banks. At some point, we the taxpayers are going to have to buy those assets so our nation’s banks can begin returning to some semblance of normalcy, and the lower the value of those assets, the higher the hit will be to taxpayers.
To-date, investors have refused to take any losses whatsoever, which is why principal reductions are as rare as Sarah Palin supporters at MoveOn.org, or union leaders at the RNC. And even though most lenders and servicers are participating in the president’s Making Home Affordable program, the decision as to whether a given loan will be modified or its principal reduced, is still voluntary, which is a euphemism for “you’ve got to be kidding”.
Judgment Day
As of July’s end, when the administration published the “report cards” showing how each servicer was doing related to their efforts to modify loans, everyone on the list was shown to be an underachiever. And we’re not just talking about ‘C’ students here, we’re talking 9% of an eligible 2.7 million homeowners who had received loan modifications; Bank of America, the “Bank of Opportunity,” as I recall, and one of the country’s largest mortgage holders, came in dead last at 4%.
We gave the banks a chance to volunteer, we gave them so much money it’s impossible to fathom, and they basically said… “Yawn”… and continued to foreclose at will.
The Obama Administration’s plan was to involve a carrot and a stick. The stick was judicial foreclosures; bankruptcy judges being allowed to write down loans on primary residence mortgages for borrowers filing bankruptcy so they could remain in their homes. Candidate Obama promised that he would support this legislation, and President Obama, as recently as last February when he introduced his foreclosure rescue plan, said that it was a crucial component of his new plan as well.
But that’s the last anyone has heard from the President on the matter. He didn’t allow its inclusion in the economic stimulus bill, and now it seems that he doesn’t even allow it to come up at press conferences. He said the proposal would have to stand alone, which was another way of saying that it would be doomed to failure. And in case that wasn’t enough, the banking lobby was standing by prepared to spend tens of millions to defeat it.
In the second quarter of this year alone, the powerful Mortgage Bankers Association spent $761,000 on lobbying efforts. And that’s when the United States Senate defeated the legislation that would have saved hundreds of thousands of homeowners from foreclosure by allowing judges to modify mortgages. The lending industry saw it as a major victory,
A victory? For whom? I’m not sure these guys understand what “victory” means, or at the very least, they appear to have trouble distinguishing between “battle” and “war”.
The bankers say that allowing judges to modify mortgages will increase the number of bankruptcy filings and cause interests rates to rise, but these are two of the weakest arguments ever put forth because the alternative, which is what we’re all living through now, is a deflationary spiral that continues to drag our economy down and lasts for perhaps a decade or longer.
Just imagine what this country will look like, if for the next two years things just get progressively worse… and then it really gets bad. Don’t kid yourself… if we don’t stop the foreclosure crisis and soon, that’s exactly where we’re headed. A recent research report published by Deutsche Bank estimated that something like half of all the homeowners in the United States are going to find themselves underwater by 2011, so woo-hoo!
Stan Lockhart, an experienced real estate attorney who has represented homeowners trying to obtain loan modifications and also handles bankruptcies, commented:
“Bankruptcy reform can’t harm investors because they have nothing now. The market is where the market is. And if homeowners have no hope, if there’s no hope of equity in the future, then homeownership in this country is on borrowed time and perhaps for en entire generation. Can our economy survive under those circumstances… I don’t think it can and that can’t be very attractive to investors, can it?”
Judging the Political Climate
Sen. Richard Durbin (D-IL), along with New York’s Sen. Chuck Schumer, have been championing the bill through both of its defeats. The last time it sailed through the House… Citigroup even crossed banking lines to support the bill, and then it died in the Senate at the hands of the banking lobby.
To get Citigroup to support the bill, Sen. Durbin agreed to three… um… modifications, pun intended. 
One: It would apply only to mortgages already in existence at the time the bill passes, and not to loans made after that date. One would think that this compromise would put an end to the objection voiced by lenders that applying it prospectively would result in higher borrowing costs for all homebuyers.  
Two: In order to qualify for a judicial loan modification, homeowners would be required to contact their lender or servicer at least 10 days before filing for bankruptcy, which would give that lender or servicer one final chance to be, in a word, a mench. 
Three: Violations of the Truth in Lending Act, or TILA, wouldn't allow for the debt to be wiped out, as was the case in the original bill. Instead, such violations would result in a fine, which is how the statute already works outside bankruptcy court.
The response by the banking industry? “Thank you for playing, but sorry… no.” And the arguments behind the industry’s latest objections make even less sense than their earlier smokescreen. Try this one: The bill would even apply to million dollar homes, or homes where the homeowner isn’t behind on their payments. This makes me wonder whether perhaps they’ve forgotten that the bill has to do with bankruptcy, and is not simply a way to shop for a lower payment.
Or how about: The bill imposes no time limit, so lenders are worried that they could still be dealing with this issue 30 years from now. My personal response would be to say… fine, and give them a 10-year window, if that will make them feel better, but that’s just me. And the industry’s third latest objection? Under certain circumstances related to TILA violations, the entire debt could be forgiven. Supporters point out that this provision only mirrors the penalties for abusive lending that exist outside bankruptcy court. And I would like to add... have these people ever met a judge? And if so, did that judge seem like the kind of guy who’s prone to giving away houses willy nilly? I met a pretty nice judge in traffic court once, but even he only reduced my fine from $280 to $160.
Norma Hammes, a bankruptcy attorney who’s practiced for 31 years and now helps homeowners obtain loan modifications, is more than familiar with how lenders and servicers are handling homeowners at risk of foreclosure. According to Hammes: “They (lenders and servicers) are trying to separate the attorneys from their clients. It’s clear that the banks and servicers don’t want homeowners to be represented by counsel. If they were really serious about loan modifications, they’d put the actual contact information of the HAMP Modification Department on their Websites. As it stands, you have to call and call and then wait on the phone for hours before talking to anyone.”
“And that’s just the tip of the iceberg,” explains Hammes. “In the Treasury Department’s FAQs, which seem to be the closest thing to published rules, there seems to be a requirement that the lender postpone a foreclosure while a homeowner is under consideration for a HAMP modification, but that’s far from being something on which a homeowner can count. It happens far too often.”
Even HUD-approved housing counselors, who the government has consistently praised as being the frontline professionals trying to modify mortgages for distressed homeowners, express high levels of frustration at the number of brick walls, bureaucratic incompetence, and seemingly unending bewilderment about the program’s rules that they say are all ubiquitous at lenders and servicers. 
The Obama Surprise
I have to say that most of what I’ve learned about bankruptcy reform and judicial loan modifications, on one side has seemed like common sense, and on the other, predictable resistance. It’s obvious that the lenders and servicers aren’t going to act in anyone’s interests but their own, no matter what they’re asked nicely to do. And it should come as absolutely no surprise that if they’re not threatened by what a judge might do, then there’s no consequence to their actions. 
Our country is in crisis, and we can’t expect the banks to act for the overall good of our society… that’s not their role… that’s the role of the elected representatives who serve in our government. No surprises there, right?
What’s incredibly surprising, to me anyway, is who has aligned themselves with the banking lobby in opposing judicial loan modifications: Ladies and Gentlemen introducing the Obama administration. 
In late September, Assistant Treasury Secretary Michael Barr, speaking to reporters, said that, “Bankruptcy reform is an additional tool, but it’s not the focus of our efforts to keep people in their homes.” The Wall Street Journal interpreted Barr’s comment as meaning that proponents of the reform should forget about it, because it ain’t happening. The administration talks tough about stopping foreclosures, but then all it does is talk. Now, instead of picking up the stick, all it’s going to try is increasing the number of carrots, and embracing short sales, which has about the same chance of working as the Hope-for-Homeowners program implemented by President Bush that has modified about the same number of mortgages as exist on my block.
Short sales are always a problem, because the lender or servicer has to agree that a borrower can sell the home for less than owed, and forgive the difference. If that sounds a lot like getting a bank to agree to a principal reduction or loan modification, you’re right. So, why would offering lenders or servicers a financial incentive that amounts to little more than a couple of sheckles for agreeing to do what they’re not doing now be effective? Well, it wouldn’t silly.
I do have some sympathy for the Obama administration. They don’t have an easy job, and Secretary Geithner unquestionably has his hands full trying to deal with bankers that are acting like spoiled children in oh, so many ways. But he’s creating some of that by not taking a tougher stance, and it could be that the reason for this is that the Democrats don’t want to ruffle any of Wall Street’s financial feathers before the midterm elections in 2010.  They remember what happened to Bill Clinton in 1994, and they don’t want to see that happen again.
Geithner’s allowing the banks to ignore the accounting rules that forced banks to mark their assets to the market value, and FDIC Chair, Sheila Bair has said that forcing them to comply with FASB’s rules at this point makes little sense. That’s laugh out loud funny… to me anyway. I guess it makes more sense to allow the banks to have balance sheets that are pure fiction. Well, alrighty then. I suppose that is better, especially when you consider that the alternative is National Socialism… I mean nationalization.
I understand the nature of the problems faced by the administration, but I have to say that the way they’re handling it does bother me. If a bank can foreclose on a home, and accounting regulations allow that bank to keep that mortgage on their books at its original, albeit now fictional value until the home is actually sold, then you’re allowing the bank to benefit from the foreclosure for some time, anyway. But if, at the same time, you’re telling the country that you’re encouraging loan modifications, well… it seems disingenuous… to me, anyway. 
In essence, you’re allowing that bank to temporarily re-capitalize itself on the backs of foreclosed homes, and that may be a preferable alternative to going back to congress for more money for banks in advance of the midterms, and I may even understand that political reality. But I’m pretty sure that the families losing their homes won’t be nearly as understanding once inside the voting booth next fall.
It may not be something that shows up in the polls today, but the Obama administration, while it won’t be held accountable for everything that happened before, will absolutely be held accountable for fixing the foreclosure crisis. 
In that regard they have thus far failed, and I think they’re likely to continue to fail unless they change their tune on judicial loan modifications.

Of course, I’m just thinking out loud over here. Usually, I’m not one to judge.

Martin Andelman is a staff writer for The Niche Report.  He also writes an almost daily column on Ml-Implode.com called Mandelman Matters.  He also publishes a Monthly Museletter and you can follow "Mandelman" on Twitter.  Send your reponses to martin@nichereportonline.com



Is TILA-RESPA a good or bad thing long term?