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Trial Modifications Make HAMP’s Success a Difficult Read

New York-As the Nov. 1 deadline to complete 500,000 loan modifications approaches, the industry already has exceeded its statistical goal, but thanks to the 90-day "moratorium" period, it remains in the dark about their success rate.

As reported in National Mortgage News in recent testimony before Congress, Treasury assistant secretary for financial institutions, Michael Barr, said that participating servicers have extended offers on over 570,000 trial modifications with over 360,000 trial modifications already underway.

What does it really mean?

Apparently the trial period is preventing the government, servicers and borrowers from getting a realistic read on the Home Affordable Modification Program performance and the overall wellbeing of the mortgage marketplace.

"I'd like to know more about how servicers and sellers are communicating with each other because that makes a difference here," says the chairman of Kondaur Capital Corp., Orange, Calif., Jon Daurio, an owner-servicer specializing in buying scratch-and-dent loans.

"Frequently the spectrum of modifications is so broad that it appears there is no clear underwriting for the modified loan. There's a lot of gray areas in the loan modification process - and one of them is trial modifications."

"Judging from the numbers I'm hearing from my industry counterparts, there is significant fallout from these modifications," says Marc Helm, chief operating officer of Reverse Mortgage Solutions, Spring, Texas, who has years of experience in loss mitigation.

An inherent problem with modifications is the risk that in the rush to deal with unprecedented volume and the desire to fulfill the government required quota more servicers are tempted to rush into short-term solutions that have only temporary statistical value.

"I don't think a modification should be done for the sake of doing a modification," says Mr. Helm. "Good common-sense practices dictate that modifications should be done only if they have a chance at working. I do believe that you need to go out and solicit everybody that you think that qualifies, because you really can never know if a modification works until you talk to them, get their financials updated and so on, to be able to determine if a borrower can really pay on a loan to bring it current."

In Mr. Helm's view a loan modification trial period does not make sense, neither to investors nor to servicers who are mandated by government regulations to modify a loan following certain parameters.

"You can do it, but unless that investor really does it, what you've done is buy that borrower another window where that person could potentially default on that the first month, then start the foreclosure process all over again to your office. … You've got to worry: What's happening to that asset there belonging to the investor during this period of time?"

Allowing a borrower to sign up trial loan modification papers as a way to buy time means higher and unnecessary loan investor losses, "because you're dragging that asset before it can be liquidated," he says.

The main reason behind today's problems is because the mortgage industry made loans it never should have made, Mr. Helm says, because not everybody can be a homeowner. Looking back into those past mistakes he finds today the industry cannot turn around and say, "Everybody should have a modification and save that home, when we know a big percentage of those are not going to work just like a big percentage of those mortgage loans of the past did not work. We got to be very analytical in our work."

It just turns modifications into a moratorium. And moratoriums already have received negative press as political measures disconnected from market reality that justify a borrower's inability to pay the mortgage either willingly or unwillingly.

While there always is a possibility for a distressed borrower to improve their personal finances in time, job loss remains the main factor that contributes to higher default and foreclosure rates, so it will continue to drive the mortgage market going forward.

Right now the numbers show a bleak picture. According to the Hanley Wood Market Intelligence October report, unemployment jumped to 9.8% in September, the highest it has been since June 1983 resulting in an acceleration in job losses in many major sectors of employment including construction, services and retail in September. It suggests continued losses in the labor market "will limit efforts for an economic recovery."

The challenge is in measuring one's ability to pay the mortgage after that trial period. Sometimes it works. Mr. Daurio says the problem is it creates an opportunity for servicers who may be interested only in the short-term benefits of a loan modification incentive. "Many of the loans that I have bought were modified for just a short period of time, but lenders are completely silent about whether they are 'successful' which shows there's a flaw in the system."

Mr. Daurio is concerned about his own shop and the overall mortgage market.

Trial modifications are affecting the scratch-and-dent loan purchase market where he operates by pushing the boundaries. "It is further pushing down the price of the scratch-and-dent loans because you have to discount the increase in order to be able to justify the additional risk that you bear by not knowing what you're getting."

Mr. Daurio says that often his firm gets loans they did not know were modified.

"What gives me concern as a buyer of these scratch-and-dent loans is the spectrum of the issues they have with them I get the impression that the previous servicer did a six-month modification just to get the loans to pseudo reperform." If, for example, the loan was nonperforming for the past eight months and the borrower can only afford a $800 mortgage on a $600,000 loan, there should not be a modification but a foreclosure.

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