Thursday, March 15, 2007

Report finds subprime loan servicers practicing forbearance

Long-term benefits of modifying loan terms a matter of debate
Thursday, March 15, 2007 By Matt Carter Inman News

A new report by Standard & Poor's Ratings Services details steps subprime loan servicers are taking to help borrowers avoid foreclosure, but doesn't attempt to gauge how successful those efforts will be.

With estimates of more than $500 billion in adjustable-rate mortgages expected to reset to higher interest rates this year, the willingness of lenders to work with debtors to avoid foreclosure could mean the difference between a soft and hard landing for some U.S. housing markets in 2007.

Loan servicers, who not only collect payments from borrowers but also handle defaults, foreclosures and the sale of real estate-owned properties, can "minimize losses to investors while providing assistance to thousands of homeowners in dire financial trouble," the Standard & Poor's report said. There's plenty of incentive for lenders, too, since the foreclosure process can cost $40,000 per home or more.

But subprime loans -- which can include "exotic" mortgages like interest-only and pay-option adjustable-rate mortgages, as well as hybrid 2-28 loans and 80-20 piggybacks -- are more complex to administer than 30-year fixed-rate mortgages, the report noted.
Some borrowers have complained that it's difficult to communicate with their lender, and that some are unwilling to discuss alternatives to foreclosure such as modified loan terms or a short sale. Standard & Poor's said discussions with loan servicers about their efforts to work with borrowers were "encouraging."

"Sound, proactive management, along with ingenuity, planning, and investment in staff and technology have put most servicers in a solid position to help borrowers work through the substantial difficulties they may be facing," the report said. "All of the servicers we contacted said curtailing defaults and engaging in early-stage loss mitigation are paramount for minimizing investor losses and keeping borrowers in their homes"

The point of the report, said Standard & Poor's Servicer Analyst Robert Mackey, is that "major servicers really understand that early intervention and loss mitigation is a much better way to address this" than proceeding directly to foreclosure.

J. Michael Collins, president of Ithaca, N.Y.-based MortgageKeeper Referral Services Inc., said that when borrowers get into trouble, "they tend to panic."

From his perspective, "Servicing could improve, so that people are not scared of the lender."
MortgageKeeper helps lenders find help for troubled borrowers by maintaining a database of nonprofits in 15 cities that provide counseling and assistance. The company has received "a lot more inquires lately," Collins said. "There are a lot of folks in the industry trying to figure out solutions."

Subprime loan servicers seem to be moving more quickly than prime lenders in adopting a "customer-oriented" approach in response to the current rise in loan delinquencies and defaults more quickly than prime lenders, Collins said.

"There is probably more they could do in the early stages, and be less confrontational," Collins said. "Many are starting to go in that direction."

Servicing loans can be a labor-intensive job, and some lenders outsource the job to companies that rely heavily on loan processing software and overseas call centers to reduce costs.
"I think a lot of folks think of loan servicing as a cost," Collins said. "When the goal is minimizing costs, they miss that this is a place where you can get a lot of added value."

In the long run, cost-cutting measures could actually increase expenses if more loans go into foreclosure.

"If I'm a borrower, and get shunted to a call center overseas, how much do I feel the lender trying to work with me?" Collins said. "This sort of laser-like focus on cost-cutting can result in worse borrower behavior, and less likelihood of getting those payments and a resolution."
Mackey said lenders understand the importance of loan servicing.

"Any staff reductions you're reading about (in the mortgage lending industry) today is on the origination side," Mackey said. "The servicers are adding staff because of the complexity and the volume of loans having trouble."

In his report for Standard & Poor's, Mackey found that many loss-mitigation departments are trying to identify troubled borrowers in the early stages of delinquency, reviewing accounts that are current to determine if they may be headed for trouble. Servicers are trained to spot problems based on conversations with borrowers, assigning them risk profiles that help loan administrators make early contact.

Standard & Poor's found that Saxon Mortgage Services Inc. calls and writes borrowers facing ARM resets, and offers repayment plans to those with escrow shortages beyond the traditional 12-month period.

When a loan is still in the early stages of payment default, "Our staff is attempting contact every other day until the customer is reached and a status on the account is obtained and hopefully a payment taken or a short-term repayment plan established a promise to pay is made," Saxon executive vice president Stella Hess told Standard and Poor's.

Saxon has reduced the number of accounts each agent handles, allowing them to devote more time to borrowers in need of consultation, Hess said.

Before referring any delinquent loan to a foreclosure attorney, a committee at Saxon conducts a review to verify the company has taken every possible step to mitigate a loss and stave off foreclosure.

GMAC ResCap Vice President Mitch Oranger told Standard & Poor's the company is sending staff to cities around the country with high foreclosure rates.

The company aims to make early contact with troubled borrowers, which can require verifying borrower information and authorizing skip-tracing even as a new loan is being boarded to its system, Oranger said.

In 2003, ResCap partnered with the City of Chicago, Neighborhood Housing Services of Chicago, the Federal Reserve Bank of Chicago, and others to form HOPE, a loss-mitigation effort that has expanded to 10 cities.

ResCap's foreclosure prevention team is also providing similar services in 12 other markets where foreclosures are rising and local partners want to provide local counseling to homeowners.
At Irvine, Calif.-based Option One Mortgage, all loans are eligible for loss mitigation, even those with first-payment defaults. Option One has opened satellite offices in areas with high foreclosure rates such as Detroit, Columbus, Ohio, Atlanta, Houston and Philadelphia.

Collins said Mortgage Keeper is talking to its lender clients about expanding its database of counseling and assistance programs for borrowers to another 10 cities. In discussions with lenders on where the need is greatest, California, Tennessee and Florida have emerged as likely candidates, Collins said.

Although Standard & Poor's did not attempt to gauge the effectiveness of efforts to assist borrowers, a report released Tuesday by the Center for American Progress looked at several foreclosure prevention programs.

The programs examined in "From Boom to Bust: Helping Families Prepare for the Rise in Subprime Mortgage Foreclosures," included a mortgage foreclosure program in the Minneapolis-St. Paul area.

The program, created in 1991, provided counseling for 4,200 households and mortgage assistance to a smaller number.

A 2005 study found that 60 percent of households receiving services and 70 percent of those that received assistance loans were current on their mortgages 12 months after receiving services.

Most homeowners receiving services were able to reinstate their mortgages in approximately 9.5 months and pay back their assistance loans, and the rate of foreclosure by families served by the program dropped from 11 percent to 6.8 percent.

But the drop could have been because of the growth of nontraditional loans offered to borrowers with no equity and a state law prohibiting creditors from collecting deficiency judgments, which made lenders more willing to restructure loan terms.

Some experts think efforts by loan servicers to mitigate losses may have contributed to the current crisis in subprime lending, by obscuring the true risk of securities backed by mortgages and sold on Wall Street.

In a recent paper, "How Resilient Are Mortgage Backed Securities to Collateralized Debt Obligation Market Disruptions?" Joseph R. Mason and Joshua Rosner point out that loss mitigation may have long-term risks, citing studies that suggest the rate of re-default FHA loans with modified terms may be as high as 25 percent.

The Department of Housing and Urban Development requires servicers of FHA-guaranteed loans to attempt loss-mitigation strategies, Mason and Rosner note. Government-sponsored entities Fannie Mae and Freddie Mac have reported a success rate of nearly 50 percent in such efforts, they write.

"Given that subprime servicers have implemented some of the most aggressive approaches to servicing delinquent loans, it would be surprising if their workout ratios have not kept pace with the (GSEs)," they say.

These mortgages can be placed in pools of loans that back securities purchased by Wall Street investors, who may not be fully aware of the added risk of default, Mason and Rosner said.

"While the industry and HUD have frequently stated the social benefits and business savings of loss mitigation, scant data exists to analyze the ultimate effectiveness of these programs," they wrote.

As a result, historical data on delinquency and default may understate risk. That, combined with the lack of loan-level data about loss-mitigation efforts makes it difficult for investors in mortgage-backed securities to properly gauge their risk.

The rollover of nonperforming loans is considered one of the main causes of the savings-and-loan crisis of the 1980s, they noted, and can "create greater systemic risk" in the banking and financial industries.

The Standard and Poor's report, "Subprime Loan Servicers Step Up Loss Mitigation Efforts To Avoid Foreclosures," recognized such dangers.

If forbearance plans and loan modifications "are not prudently underwritten, delinquencies will only worsen," the report concluded. "Competent mortgage servicers should focus their most seasoned default management personnel on loss-mitigation negotiations, and that staff should receive continuous training. Senior management should closely monitor recidivism rates and forbearance break rates to ensure that the decisions being made by staff are sound and provide long-term solutions."

"I hope borrowers understand that it's always their best bet to contact the lender sooner rather than later," said MortgageKeepers' Collins. "The consumer psychology is often, 'I can take care of this tomorrow.' The longer they put it off, the harder it's going to be."

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