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Stimulus Bill May Spur Bankruptcy Filings

Washington-Cramdown legislation pending in Congress could cause a “substantial” surge in bankruptcy filings by consumers, including mortgagors who are currently paying their loans, according to a new report by Friedman Billings Ramsey.

FBR believes that consumers - if allowed - will go the bankruptcy route to reduce their housing debt. The firm calls it an “unintended consequence” of the language being discussed.

The investment banker also notes that banks, thrifts and other large holders of second liens “would most likely be wiped out by a bankruptcy judge in the modification process.”

Banks with large HELOC portfolios that might be hurt include Bank of America, Citigroup and U.S. Bancorp, among others.

Whether cramdown powers for judges become a reality remains uncertain. A cramdown bill passed the House Judiciary Committee last week but it’s unclear what major piece of legislation that bill might be attached to.

The Mortgage Bankers Association is lobbying to have cramdowns limited to subprime loans originated during the peak of the housing boom.

The bill that passed the House Judiciary Committee (by a 21-15 vote) gives bankruptcy judges broad authority to reduce or “cram down” the principal amount of a mortgage on a primary residence - except FHA and VA loans.

An amendment by Rep. Trent Franks, R-Ariz., to limit bankruptcy cramdowns to mortgages originated from 2004 through 2008 was easily defeated. The amendment also had a sunset provision.

Committee chairman John Conyers, D-Mich., said his bill exempts Federal Housing Administration, Department of Veterans Affairs and Rural Housing Service guaranteed loans from cramdowns - something MBA and other industry groups have been pressing for.

But industry lobbyists claim the exemption language does not go far enough and amounts to little more than guidance to the bankruptcy courts. “If this bill is enacted, lenders will no longer participate in these programs because it provides no assurance against a possible cramdown,” said Philip Corwin, a bankruptcy expert with Butera & Andrews.

But the action on the bankruptcy bill (H.R. 200) came too late and likely will not be hitched to the economic stimulus bill. This gives industry lobbyists more time to tweak the measure.

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