What is the best foreclosure relief option for unemployed and underwater homeowners?

  • Short sale (30%, 64 Votes)
  • Principal reduction or cramdown (29%, 63 Votes)
  • Strategic default (17%, 37 Votes)
  • Payment forbearance (12%, 26 Votes)
  • Loan modification (11%, 24 Votes)

Total Voters: 214

Extend and pretend is alive and well: unemployed homeowners with mortgages owned by Freddie Mac and Fannie Mae (Frannie) now have the option of participating in a mortgage forbearance program. The revised policy took effect February 1, 2012 for Freddie Mac and will take place March 1, 2012 for Fannie Mae.

Not all homeowners with a mortgage from Frannie – 60% of homeowners in California – who experience job loss will be eligible for Frannie’s forbearance program. To qualify:

  • the property must be the homeowner’s principal residence – second homes or investment property will not be considered;
  • financial hardship caused by employment loss must be documented and reasonably demonstrate forbearance will save the homeowner from default and foreclosure;
  • the homeowner must show he does not have cash reserves in bank accounts or liquid assets which exceed 12 months’ worth of household expenses;
  • household expenses must be more than 31% of the household monthly gross income, excluding unemployment benefits; and
  • the home must not be financed with an Federal Housing Administration (FHA)-insured, Veterans Affairs (VA)-insured or Rural Housing mortgage. [For more information on how unemployed homeowners may qualify for the program, see the Freddie Mac report Unemployment Forbearance and the Fannie Mae report Introduction of Fannie Mae Unemployment Forbearance.]

As the idea of Frannie’s forbearance goes, an unemployed homeowner may be granted up to 12 months in deferment of his mortgage payments, during which time he may look for and obtain employment. Once he does obtain employment, he will work out a payment plan with his mortgage servicer in order to get back on track with his payments and make up for the payments deferred. The lender adds the interest to the principal and the owner gets a free ride for 12 months.

Frannie expects the forbearance option will allow unemployed families to remain in their homes as well as alleviate overcrowding in the housing market caused by real estate owned (REO) inventory. Private lenders BofA, GMAC Mortgage and Wells Fargo have indicated they are either in the process of reviewing or will assess mortgage forbearance options.

first tuesday take: Frankly Frannie, forbearance is a cute gesture, but what unemployed homeowners who are the worst off need is principal forgiveness to adjust for the pricing crisis solely brought on by lenders, not homeowners.

If REO inventory crowding was the perceived problem, then REO lenders need only drop the high prices they seek for the REOs now in the multiple listing service (MLS) and voilà, buyer demand will instantly kick in and the inventory will vanish. Basically, but we are talking politics here, not basics.

The proposed forbearance program will only help a very small pool of homeowners. The homeowners the program will not help – and who unfortunately need the most help – include:

  1. Homeowners with negative equity: If an unemployed homeowner is frantically dog paddling in his underwater mortgage, forbearance is not going to fish him out of his taxing struggle to stay afloat. Forbearance will only extend the period of time in which he has to carry the weight of the mortgage – it temporarily avoids the impending doom. [For more information on the effect of negative equity for a homeowner and the household, see the February 2011 first tuesday article, The negative equity plague: California’s home insolvency crisis]; and
  2. Homeowners in a tough job market: Forbearance is a gamble on the part of an unemployed homeowner when the supply of paying jobs is way less than stellar (though his bet will get him additional unemployment benefits of payment-free shelter for one year). Finding new or more employment is not impossible but the job market is not exactly something a smart person would place their bets on – especially in California. Unemployment here is at 11% and a full recovery to the peak employment levels of 2007 is not due until 2015. To make matters more difficult, job demand rises even more at around 18,000 monthly since the population increases at roughly 33,000 per month – it’s like a slow runner trying to keep up with the pace of a race getting faster and faster. [For more information on the forecast for jobs in California, see the first tuesday Market Chart, Reeling from California’s lack of jobs].

Though a jobless homeowner with negative equity in a tough job market could potentially qualify for mortgage forbearance under Frannie’s guidelines, in the end, the underwater and unemployed need not even consider the option. Forbearance provides them no permanent relief from foreclosure. Instead it only delays foreclosure – an underwater and unemployed homeowner’s extended jailhouse sentence to a black hole asset. [For more information on the negative effects of house lockdown, see the January 2011 first tuesday article, Migratory lockdown: underwater homeowners confined.]

If Frannie really wanted to help these homeowners do the “right thing,” they would authorize principal reductions so homes could be sold since the jobless homeowners are no longer qualified to own them. But apparently the Federal Housing Finance Agency (FHFA) has declared an official “no” to cramdowns for Frannie, according to the most recent FHFA report. [For more information on Frannie’s stance on principal reduction, see the November 2011 first tuesday article, Surprise: Frannie says “no thank you” to cramdowns.]

Frannie proclaims its mission is to come to the aid of unemployed homeowners and their families. But the forbearance plan doesn’t do this. Frannie’s thinking – driven by politics – is not motivated by what foreclosure will do to individual homeowners. It’s driven by the fear of what widespread foreclosures might do to neighborhoods. Granted, this is a worthy concern, but in the end, forbearance for the underwater and unemployed is:

  • of no benefit to the community since the homeowner will have no time or money to invest in the community, let alone set money aside for the family, while he is busy working years just to pay a negative equity mortgage at twice what rent would be; and
  • disadvantageous for the homeowner since it prevents him from moving  on to a better job location, which is the primary reason he has no job; and
  • an improper lending practice since it keeps a delinquent mortgage uncleared on the lender’s balance sheet at likely double the fair market value (FMV).

RE: “Fannie Mae, Freddie Mac revise policies on mortgage forbearance “ from the LA Times and “Unemployed mortgage holders get payment extensions” from the NY Times