'Cramdowns' Could Soon be Legal

Washington-Key senators have reached a compromise with Citigroup that could speed passage of a bill that allows judges to modify mortgages and reduce or "cram down" the principal amount of the loan to the fair value of the property.

But major industry groups such as the Mortgage Bankers Association, Financial Services Roundtable and American Bankers Association have not signed on.

"We remain opposed to bankruptcy cramdown legislation because of the destabilizing effect it will have on an already turbulent mortgage market," MBA chairman David Kittle said.

Under the compromise, Sen. Dick Durban, D-Ill., agreed to amend his bankruptcy bill so only existing mortgages could be crammed down - not mortgages originated after the date of enactment.

Homeowners also have to certify that they attempted to contact their lender/servicer regarding a loan modification before filing for bankruptcy cramdown. Otherwise, a bankruptcy judge can only reduce the interest rate or extend the term of the loan.

"Citi shares the legislation's goal to help distressed borrowers to stay in their homes, and believes it will serve as an additional tool to the extensive home retention programs currently in place to help at-risk borrowers," Citigroup chief executive Vikram Pandit said in supporting the compromise.

"Citigroup's support means that the dam has broken across the mortgage industry," said Sen. Chuck Schumer, D-N.Y. "Now we have a real chance to pass this legislation quickly."

Sens. Durbin, Schumer and Chris Dodd, D-Conn., want to include the bankruptcy provisions in the economic stimulus package that Congress is expected to pass by mid-February.

Mortgage industry groups have strongly opposed bankruptcy cramdowns but the Democratic sweep in the November elections and President-elect Barack Obama's support for Chapter 13 modifications made the compromise possible.

While ABA opposed the Citi deal, its chief lobbyist Floyd Stoner signaled that he is ready to join the negotiations.

"Several important issues still must be addressed and ABA looks forward to working with Congress and the administration as discussions continue on this important issue," Mr. Stoner said.

A bankruptcy bill passed by the House Judiciary Committee last year limited cramdowns to subprime and nontraditional mortgages. The bill also included income limits so that borrowers who could afford to make their mortgage payment could not file for bankruptcy.

"Last year's House Judiciary Committee bill would be a better starting point for negotiations" said Philip Corwin, a bankruptcy expert with Butera & Andrews who also serves as outside counsel to the American Bankers Association.

MBA wants the bankruptcy provisions limited to subprime loans (2005-2007 vintages) along with a specific exemption for Federal Housing Administration and Department of Veterans Affairs guaranteed loans.

FHA deputy assistant secretary Phillip Murray told the House Financial Services Committee that the federal mortgage insurance agency does not have the legal authority to reimburse lenders for the cramdown amounts that are forgiven through the bankruptcy process.

"Therefore, any legislation in this area would likely create a powerful disincentive to doing business with FHA and Ginnie Mae," Mr. Murray said.

Meanwhile, traditional allies of the mortgage industry are dropping their opposition to bankruptcy modifications. The National Association of Home Builders said last week it is willing to discuss a temporary change in the bankruptcy code to facilitate loan modifications and reduce foreclosures.

"It is a 180-degree turn for us, but desperate times call for desperate measures," said NAHB chief executive Jerry Howard. The National Association of Realtors is reviewing its longstanding opposition to cramdowns.

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