Controversy Brews Over Latest Obama Mortgage Write-Off Plan
The newest effort by the federal government to shore up the flagging housing market is going to set off a fierce debate. The just-announced FHA Refinance Option is likely to keep a lot of homeowners out of foreclosure. This is important because until the “shadow” inventory of distressed and foreclosed homes is reduced in a big way home prices cannot rise, the housing market cannot come back to life and the drag on the economy will be enormous.
The problem with the Obama plan is that a lot of people are about to get very upset. Here’s why: Under the government’s program distressed borrowers will be able in some cases to refinance current loans with an FHA mortgage. Interest rates will fall and so will loan balances — in other words, the size of the debt will be reduced through a principal reduction.
How The Program Works
So what’s the problem? Imagine that you have two borrowers on the same street, Family A and Family B. They both bought in 2006, they both have a $250,000 mortgage and one loses his job. To prevent foreclosure, the troubled borrower — Family A — gets help from the government. According to FHA Commissioner David H. Stevens here’s what happens (including a chart):
- In 2006: Family A took out a 30-year fixed mortgage with a balance of $250,000 and an interest rate of 9.0%. Their monthly payment was about $2,000 per month.
- Today: Home prices have dropped and Family A’s home is worth $180,000.
- With a FHA Refinance: Family A’s loan balance will be reduced to $207,000 and their monthly payment will fall to about $1300 per month. This will reduce their principal balance by about $33,000 and reduce their monthly payments by about $700 per month, saving the family nearly $42,000 over the next 5 years.
| Existing Mortgage | FHA Refinance | ||
| Balance | $240,000 | $207,000 | |
| Remaining Loan Term | 26 | 30 | |
| Interest Rate | 9.0% | 6.5% | |
| Monthly Payment | $2,000 | $1,300 | |
| Savings | $33,000 principal reduction, $700 per month | ||
Resentment & Reality
Is it good to help Family A? You bet.
First, if there’s a foreclosure on your block you can be sure the value of your home will fall.
Second, it’s good for the country to save homes from foreclosure.
Third, not throwing people out on the street is a decent and humane thing to do.
Fourth, and not insignificantly, the government will spend $14 billion in TARP money to offset lender losses, some of which will go to Family A’s lender. However, lenders are NOT required to participate, the program is entirely voluntary. Lenders who don’t like the federal program can take their chances with a foreclosure.
That said, while Family B will be happy about the good fortune of Family A, the grim reality is that Family B is paying $700 a month more than Family A. When Family B sells their home, they will owe $33,000 more than Family A.
You can pretty much bet that the disparities created with the FHA Refinance Option will not sit well with a lot of Family Bs. While some critics would not be satisfied if Obama cured cancer and ended hunger, even among rational and reasonable people it’s going to be tough to swallow mortgage help for some but not help for others, especially when monthly mortgage payment checks must be written.
Blame The Firemen, Not The Fire
For the Obama Administration the real problem is that the painful cure for the mortgage meltdown is more visible than the lack of action by the Federal Reserve which could have stopped toxic loans and prevented the current crisis. Already there are calls for less banking regulation, as if that’s both an innovative and smart idea.
As Albert Einstein explained, “the thinking it took to get us into this mess is not the same thinking that is going to get us out of it.”
© Copyright 