A few hours after the Federal Housing Finance Agency officially slammed the door on principal reductions, the Treasury Department shot off a memo to agency director Ed DeMarco asking him—more or less—to reconsider his position.
“The use of targeted principal reduction is beneficial for several reasons,” writes senior Treasury official Michael Stegman. “It provides relief to a significant number of underwater troubled homeowners, helps repair the housing market and minimizes taxpayer losses.”
Stegman, who carries the title of counselor for housing finance policy, argues that reducing the principal on GSE loans “is consistent” with the FHFA’s mandate as a “conservator and regulator” of the two because such reductions will save money for both the taxpayers and the entities.
Midday Tuesday the FHFA issued a statement saying it would not allow Fannie and Freddie to restructure underwater loans via principal reductions. (To date, all principal reductions have been on non-government loans.)
DeMarco’s stance on the subject came despite political pressure from congressional Democrats and the Treasury Department.
Up until his statement, some industry officials thought he might allow limited principal reductions.
The acting director declared that he will not let the GSEs participate in the HAMP principal reduction alternative program due to concerns it would encourage more borrowers to default on their loans.
In a letter to Congress, DeMarco said adoption of the principal reduction program would reduce the GSEs’ cost of foreclosures by $500 million under a “best case” scenario.
However, implementation of such a program would be costly and time consuming, he added, and it would give borrowers who are current an incentive to default.
“If only a very small portion of the enterprises’ currently underwater borrowers (3,000 to 19,000) strategically default to seek principal forgiveness, the HAMP principal reduction alternative would result in a net loss to taxpayers, even using the model-based assumptions most favorable to the program,” DeMarco says in his July 31 letter.
To appease his critics, DeMarco said the FHFA will take additional steps to streamline refinancings of Fannie/Freddie loans through the HARP program and give lenders more certainty with respect to representations and warranties on newly originated loans.
Earlier this year, Treasury tripled the incentives it pays to investors for reducing principal on underwater loans. This increase was expected to make such reductions more attractive to Fannie, Freddie and its regulator.
In testifying last week, Treasury secretary Tim Geithner said he encouraged the GSEs to take advantage of the HAMP principal reduction program.
The Treasury secretary also noted that he is very supportive of principal reductions and his department is reviewing a private initiative that would allow cities to use eminent domain to condemn private-label loans, allowing underwater notes to be restructured via a principal reduction.
“There are a lot of complicated legal and policy questions” with regard to eminent domain, Geithner said. “We are going to carefully look at those proposals and look at all the implications.”
In his letter, DeMarco indicated the FHFA has been soliciting lenders for feedback on the newly implemented HARP 2.0 program. The FHFA has “identified a few operational adjustments to further simplify this process and increase the number of loans approved for refinancing. Updated guidance to lenders will be released shortly,” the letter says.
