A pilot program can be devised to show principal reduction is a cost-effective way to keep underwater Fannie Mae and Freddie Mac borrowers in their homes and prevent strategic defaults, according to a new report by a research group.
The Center for American Progress is urging the Federal Housing Finance Agency to greenlight a GSE pilot program that employs “shared equity” modifications on loans that do not have private mortgage insurance or second liens.
“To maximize returns to Fannie and Freddie, we propose a pilot program that reduces principal – often by as little as 5% to 10%,” said CAP policy analysts John Griffith and Jordan Eizenga.
FHFA acting director Edward DeMarco has staunchly resisted calls to use principal reductions, claiming most underwater borrowers are current on their loans and such a move will only increase taxpayers' costs to keep the GSEs afloat.
However, the Treasury Department has increased incentive fees it pays investors for principal reduction HAMP modifications to cover up to 63% of the costs. FHFA is presently evaluating the higher fees to see if it changes the “calculus” in favor of principal reductions. DeMarco is expected to announce his findings sometime in April.
“The HAMP incentives should more than tip the scales toward principal reduction,” the CAP policy analysts say in their report.
The group notes that the GSEs have 3 million underwater loans with 1.4 million units considered 'deeply underwater' – and with the foreclosure crisis far from over.
The authors also argue that FHFA's resistance to principal reduction may reduce the short-term costs of the conservatorships, but not the long-term costs.
“At its core, principal reduction is good business,” co-author Griffith said in a statement. “A carefully designed principal-reduction program—one that limits long-term risks born by Fannie and Freddie and focuses on borrowers that actually need a reduction—would save the GSEs and the taxpayers supporting them billions of dollars over the life of those loans relative to not doing anything.”
