California Takes Lead in Pressure to Modify Loans

California Gov. Arnold Schwarzenegger has enlisted four major subprime servicers to streamline their loan modification procedures for adjustable-rate subprime mortgages to stem rising foreclosures in his state.

Countrywide Financial Corp., GMAC Residential Holding Corp., Litton Loan Servicing LP and Barclays HomeEq unit have agreed to help borrowers who are facing resets on their 2/28 ARMs and can't afford the higher payments.

The four companies service 25% of the subprime loans in the Golden State and they are expected to freeze the interest rate at the starter rate for eligible borrowers so their payments remain stable and affordable for five to seven years.

Countrywide Financial Corp. intends to adopt a five-year freeze.

"Under our program, we anticipate freezing rates at the pre-adjustment level for up to five years for borrowers with good payment records who are likely to have trouble making an adjusted payment," Countrywide spokesman Rick Simon said.

Gov. Schwarzenegger said his state is facing a "foreclosure crisis" and half a million California borrowers have subprime mortgages that will reset to a higher rate in the next two years.

"With this kind of cooperation from loan servicers, we can save tens of thousands of people from being added to the foreclosure lists," he said.

The famous governor acknowledged the idea for the freeze came from FDIC chairman Sheila Bair who has been calling for servicers to adopt more systematic approaches in modifying 2/28 and 3/28 subprime ARMs.

Federal Deposit Insurance Corp. staffers worked with the governor's staff during the negotiations with the servicers.

Ms. Bair said last week she is "happy" to see the states and servicers becoming more pro-active.

"We are just now getting into the thick of the mortgage reset problem, she said, with an estimated 1.5 million homeowners facing resets in 2008 and another 375,000 in 2009.

"Taking a more systematic approach will make it easier to modify loans and free up servicers' resources to deal with harder cases," she said.

OTS officials are working on a proposal that would freeze the initial interest rate on subprime mortgages for 36 months.

OTS director John Reich contends that a three-year freeze is more consistent with servicing contracts that are tied to subprime mortgage-backed securities.

It also is a long enough period for the mortgage and housing markets to recover, giving borrowers a better chance of refinancing.

The FDIC chairman said she has not seen the OTS proposal to really comment.

However, she stressed the need for long-term sustainable modifications. She also noted a three-year freeze might create another group of resets after 2009.

"We want to fix it in a way that we won't have to come back and do this again," Ms. Bair said.

Treasury secretary Henry Paulson is pressing servicers and other members of the Hope Now alliance to come up with new solutions that respond best to current market needs. He suggests systematic approaches to workouts that would help speed up the loan modification process.

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