Lydia brought up some good questions about my Foreclosures blog:
What do we do (under any of the plans including yours) with second mortgages and home equity lines?
The other problem, of course, is that all of these loans have been sliced, diced and tranched to the point that it is difficult to know who actually has what.
Then, of course, there are the Alt-A’s that will be resetting shortly.
And — who will pay for the appraisals and other evaluations your proposal requires?
And finally, while your plan seems very logical and workable, the government must change the mark to market rules for the lenders.
Under this program, second mortgage and HomeEq lines would not qualify. There is too much potential for abuse here. On a house previously valued at $400K, a homeowner could have taken out a $100K second mortgage to start a business. Business has slowed down and it would help the business’ cash flow if the homeowner could simply call it a $100K income gain and pay the taxes on it for five years. Or a homeowner could have taken a $40K loan and built a nice swimming pool in the back yard. Now they are having problems making payments on the $40K. Not everyone can be helped. Some people made poor decisions.
The problem with writing down principal is that it is a violation of the existing contracts that the lenders have with the bondholders, many of whom are from other countries. It would require the consent of the bondholders to change the contracts so that the lender could write off part of the principal. It’s a big problem.
The slicing and dicing means that there may be many several contracts involved in the write down on one house. When the idea was first proposed in the nineties, the computer would make it possible to keep track of the slices and dices. But, in practice, is it possible?
There is a lively debate on “mark to market”. It is not the gov that does “mark to market”. It’s GAAP accounting rules. Some suggest a model of “future revenue stream”, pricing in a percentage of impairment or default. For a simple example, if you have an MBS of $1000, with a 10 year life, and the anticipated revenue stream is $17 a month for 120 months, why not price in an impairment or default of 20%, for example, and mark the MBS at $800? As it is now, some of these are being priced as low as $200, if there is much of a market for it at all. After Enron, changes to the “mark to market” rule are viewed skeptically by economists/accountants. Asset pricing has to have some basis other than the figment of someone’s imagination. However, it is difficult for some of these long term complex products where there is no market.
As to who pays for the eval, that’s a good debate. Most homeowners who are defaulting don’t have the money so as a matter of practicality, either the lender or the gov needs to pick up the tab. It is too onerous for the gov to pay promptly for these evals, so it would probably be best if the lender picked up the initial cost for the eval, then submitted a voucher to the gov. That puts a cash flow hurt on the lender, but I think they would prefer that to the limbo many of them are in now. They can at least show that as a good accounts receivable. The cost of the eval would then be included in the homeowner’s “gain” that they would pay taxes on.
Almost every plan I have read has some fault, some legal or moral hazard stumbling block.