How Congress Can Help Homeowners

Crisis Requires Government Intervention

CAP’s strategies for Congress to consider as it discusses ways to prevent the home loan crisis from damaging the broader economy.

As home foreclosures escalate across the country, two congressional committees will meet this week to discuss ways to mitigate the threat the lending crisis poses to the wider economy. On Wednesday the Joint Economic Committee will meet in the Senate, and the following day the House Financial Services Committee will convene. Committee members in both chambers must understand that government action is needed to prevent the home lending crisis from sparking a wider economic downturn.

Many congressional leaders, the Bush administration, and financial regulators have discussed policies that rely on creditors to rescue borrowers. After all, lenders want their borrowers to pay their loans and should offer alternatives to foreclosure, which is costly for the lender as well as the borrower. But these expectations are misplaced, argues Andrew Jakabovics, the Associate Director of the Economic Mobility Program at the Center for American Progress, in The New Republic.

Expanding the amount of credit available for home loans is not going to be helpful in the short term, notes Jakabovics, as the homeowners who need the most help are unlikely to be deemed creditworthy for refinancing. Even borrowers with decent credit scores who might otherwise be eligible for Bush’s FHASecure program will not qualify if house prices have dropped leaving them owing more than their house is worth.

The large majority of lenders today, says Jakabovics, only retain the mortgages they make for a brief time before selling them on to Wall Street, where they are repackaged into mortgage-backed securities for sale to institutional investors. Because there is no meaningful connection between the original lender and the borrower, it can be hard, if not impossible, for the troubled borrower to begin to renegotiate the terms of the loan.

Wall Street has already suffered some shudders from rising late payments and delinquencies in subprime home mortgages across the United States. The increase in delinquencies and foreclosures is translating to painful losses for many investors in home mortgages, and by most accounts, the worst is yet to come. It is estimated that interest payments on adjustable rate mortgages issued between 2004 and 2006 will jump an average of 42 percent if the first rate reset is scheduled for this year.  

As CAP argued in “From Boom to Bust: Helping Families Prepare for the Rise in Subprime Mortgage Closures,” a report released earlier this year, these worrisome trends in home mortgage foreclosures could interact with other economic trends to cause further damage to the broader U.S. economy, reducing income growth and job opportunities. Because many homes at highest risk of foreclosure are in less expensive neighborhoods, it’s a real possibility that the wealth of low- and middle-income families will erode. Neighborhood stability and municipal resources are also potentially threatened by home foreclosures: neighborhoods with high numbers of vacant properties due to foreclosures attract crime and are at greater risk of fires.

Past U.S. policymakers confronted with threats this grave to American homeownership recognized that government action was needed. As Jakabovics argued in his New Republic piece, Franklin D. Roosevelt responded to a similar period of crisis in the early 1930s by calling for measures to protect small homeowners from foreclosure and make the preservation of homeownership a national policy. The Home Owners’ Loan Corporation he established was authorized to issue new loans to replace the existing liens of homeowners in default.

The HOLC loans were fully amortized over 15 years, leaving the borrower a homeowner free of further debt after the last payment was made; these loan terms, while commonplace today, were in stark contrast to the short-term, interest-only home loans otherwise available before the HOLC. In cases of delinquency, the HOLC gave homeowners more time than banks would have, and homeowners got individualized attention such as debt counseling. “By providing direct assistance to homeowners through a government entity modeled on the HOLC but with the ability to negotiate the complexities of the present securitization process,” Jakabovics argues in his New Republic piece, “we can eliminate the panic and stabilize neighborhoods in addition to helping individual homeowners.”

Other steps Congress could consider, as CAP laid out in “From Boom to Bust,” include:

  • Increase federal assistance to expand and enhance mortgage assistance programs that help qualifying programs in danger of falling too far behind on mortgage payments
  • Federal grants to expand and enhance current mortgage assistance and foreclosure prevention programs and low-interest mortgage assistance to eligible borrowers.
  • Federal funds to target key cities and states facing the highest risk of mass foreclosure.
  • Provisions to ensure federal agencies assess the effectiveness of each program every three years.
  • Strengthen programs that aid families while their mortgage contracts are renegotiated or the property is sold on the market so that the homeowners’ credit ratings are salvaged, allowing for the possibility of future homeownership.

The recent waves of foreclosures are more than just a personal tragedy for the thousands of families at risk of losing their homes. They pose a real threat to the broader economy. Strategies, however, exist to mitigate that threat, and congressional leaders should consider the opportunities open to them to do so.

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