With government efforts aimed at stemming the housing crisis in full gear, discussions are heating up regarding the Emergency Loan Modification Act of 2008, which would allow servicers the safe harbor to perform loan modifications. However, investors are up in arms because the safe harbor provision could mean potential losses for them.
George Miller, executive director of the American Securitization Forum, said that there is a flawed premise in the Emergency Loan Modification Act that investor interests are hindering servicers from performing loan modifications. One particular provision he pointed to in the bill is that which provides for a general standard of servicing and loss mitigation. The item said that a modification can be performed if the expected recovery from the loan is greater than that which could be achieved through a foreclosure. "The ASF feels that servicers are typically obligated to do more than this," Miller said. "They are called upon to select from a reasonable range of alternatives for loss mitigation with the ultimate goal of maximizing the net present value of the property."
Miller also said that the bill would create a qualified safe harbor from legal liability for servicers. "This stacks the deck and could produce incentives for loss mitigation," Miller said. He said that this might incentivize servicers to pursue modifications that are not favorable to investor interests. For instance, this might stop servicers from pursuing certain types of loan modifications that would result in greater net recoveries to investors, in favor of those that offer protection from legal claims.
In the end, Miller said that the current provisions in the bill might have negative short-term and long-term implications for investors. "This might work against investor interests in existing deals," he said. But the long-term implications are more far-reaching. According to Miller, in the long run, if the Federal government overrides private contracts, the legitimate commercial expectations of investors could be disrupted, inhibiting their future participation in the mortgage market. "We think there are other ways to promote legal certainty aside from the safe harbor provision," Miller said.
Vicki Vidal, senior director for government affairs at the Mortgage Bankers Association, said that the problem with the current wording of the act is that it compels servicers to examine losses only related to cases of foreclosure, "instead of looking plainly at what is the maximum recovery to the trust and at maximizing the recovery to the investor." Investors are concerned this might cause servicers to perform only the types of loan modifications protected by the bill and not perform others that might be more appropriate to the loan in question, causing greater losses to investors that might destabilize the market.
Vidal, who handles residential servicing policy for the MBA, said interpretational issues are the thing that "servicers want protection from." The question often becomes how far can servicers go to amend the terms of the loan within the constraints of the pooling and servicing agreements. "No one wants to be out there being the first ones to do innovations in loan modifications without clarity from investors. Servicers need the comfort in knowing their actions will not be second-guessed as to a particular workout provided." However, she maintains that this does not stop servicers from looking back at the contracts on a case-by-case basis to make sure that they are conforming to the PSAs as well as talking with individual borrowers to determine their needs.
Marlo Young, a partner at Thacher Proffitt who testified before the House of Representatives regarding the issue, said that congressmen have expressed concern that there have not been enough loan modifications done.
The question, he said, is whether servicers are modifying as many loans as they are capable of. "I don't think servicers are facing contractual or legal impediments," he said. Young cited the study Thacher conducted on the various pooling and servicing agreements, which showed that with a few exceptions, most servicing agreements provide servicers with the authority to perform loan modifications and other loss mitigation work outs instead of foreclosure. He added that, in many cases, these PSAs actually oblige the servicer to make sure to maximize proceeds to the trust. In short, most of these contracts are clear on the ability of servicers to make loan modifications.
The logistics of servicing is more of a hindrance. "For the most part, modifications are not automated, streamlined processes," Young said. "Every loan has to be evaluated on a case-by-case basis and so it's a labor-intensive hands-on process." He mentioned that the ASF's streamlined framework for the loan modification process has not resulted in as many loan modifications as expected because of the recent reduction in short-term rates. "It really didn't have the impact that it was meant to have because there is less of a payment shock right now."
Young said that one of the things that could boost loan modification efforts is revising the FHASecure program as well as developing new FHA programs. "Expanding the FHASecure program is a step in the right direction in trying to provide servicers with the arsenal they need to avoid foreclosures," he said. He said that programs that address the problem of property value decline are more appropriate at this juncture than those that are based on payment shock given the dip in short-term rates.
Miller said that the ASF has been working with servicers with the understanding that modifications take a lot of work and infrastructure to do. "We've been working with servicers to develop ways to facilitate and encourage loss mitigation to take place in appropriate circumstances," Miller said, adding that the ASF is working toward facilitating loss mitigation without overriding existing contracts and violating investor rights and entitlements. "There's a balance that needs to take place," he said.
He acknowledges, however, that performing loan modifications is not always the answer. "There are unfortunately many loans out there where modification is not appropriate, such as cases where borrowers cannot afford the introductory interest rate on the loan or some investor properties where owners do not want to occupy the home."
(c) 2008 Asset Securitization Report and SourceMedia, Inc. All Rights Reserved.