CBO Study Shows Small Benefits from Principal Reduction

If Fannie Mae and Freddie Mac offered a principal reduction option with HAMP modifications it would generate fewer than 60,000 additional modifications. However, a good 70% of all GSE HAMP modifications would involve a principal reduction, according to a new study by the Congressional Budget Office.

The CBO study released Wednesday claims that Home Affordable Modification Program principal reduction mods would result in small savings to the government and avert fewer than 100,000 defaults.

CBO notes that HAMP eligibility rules are restrictive and the impact of principal reductions would be larger if broader eligible policies were used.

Under current HAMP policies, an estimated 227,000 borrowers would benefit from a standard loan modification over a two-year period and 600,000 borrowers will still default.

If the GSE servicers reduce the principal balance to 100% of the home’s value, 253,000 borrowers would qualify for a HAMP principal reduction and just 39,000 would get a standard HAMP modification.

However, 581,000 borrowers would not be eligible for a HAMP mod and would likely default.

“Today’s report demonstrates that principal reduction programs are a win-win-win for our country—helping U.S. taxpayers, American homeowners and our nation’s economy all at the same time,” said Rep. Elijah Cummings, D-Md., who requested the study.

He noted that the impact of principal reduction would be greater if HAMP’s eligibility requirements were relaxed.

Nevertheless, principal reduction would allow more underwater borrowers to sell their homes.

“Another potential effect of the options is a reduction in ‘house lock,’ a circumstance in which borrowers who owe more than the value of their home are constrained in their ability to move to take advantage of employment outside of their local area,” Cummings said.

The congressman released the CBO report on Wednesday, the same day that the president nominated Rep. Mel Watt, D-N.C., to be the new GSE regulator. If confirmed, he would replace the current Federal Housing Finance Agency acting director Edward DeMarco, who has opposed the use of principal reduction.