Fifteen years ago, the TARP bailout bill was signed into law. $700 billion in taxpayer funds were authorized to help stabilize the economy in free fall in the wake of the Lehman bankruptcy and a mortgage market meltdown.
The original plan — to buy up troubled mortgage assets — was quickly abandoned in favor of actions like capital infusions for banks and the bailout of our auto companies. For our nation’s homeowners beleaguered by toxic mortgages and underwater loans, Treasury created a plethora of programs — with acronyms like HAMP, HARP, FHA Short Refi and the Hardest Hit Fund.
Some worked well, others not so much. Quickly building a loss-mitigation system in the midst of a crisis was a challenge. We had not experienced such a level of defaults and foreclosures since the Great Depression. Moreover, instead of the longstanding prevalence of banks holding loans in portfolio, we needed to develop de novo standardized loss-mitigation programs for new-fangled structures called mortgage-backed securities.
The good news is that this period of experimentation with mechanisms to keep defaulted borrowers out of foreclosure has evolved and been refined over the last 15 years into effective, standardized loss-mitigation programs that both keep borrowers in their home and reduce losses on the underlying home. And key federal agency mortgage loan programs like FHA, VA, and Fannie Mae and Freddie Mac have fully embraced them. Government is often criticized — but here we used lessons learned to build a better mousetrap.
The linchpin of these efforts is the partial claim. The concept is simple. A homeowner loses their job and falls behind on their payments, then gets back on track when they secure a new job.
Commonly, the homeowner lacks the funds to cover payments missed while jobless. The default action for such borrowers is foreclosure. But not only does the borrower lose their home, a foreclosure also significantly inflates loan loss levels. And this on a loan where the borrower is once again capable of making the monthly payments.
Under a partial claim, the underlying mortgage loan program advances the funds for the missed payments, and structures the advance as a second lien, with repayment tacked on to the end of the existing loan term. This tool is ideal for a situation like COVID-19, where a short-term crisis boosted defaults arising from a temporary loss of a job or income (and Congress offered these borrowers forbearance).
A second critical component of successful loss-mitigation efforts is the job of servicers, which execute the programs directly with borrowers. I was working on the House Financial Services Committee in 2008, handling phone calls from irate borrowers who could not get banks to even return their phone calls, much less help them with their loan. Moreover, banks actually had financial incentives not to use loss mitigation tools, since they could accelerate or increase losses on second lien home equity loans they held.
In the 15 years since then, nonbank independent mortgage banks (IMBs) — which is what our Community Home Lenders of America (CHLA) members are — have taken over a significant portion of the mortgage business from the banks. The record conclusively shows that IMB servicers are now doing a much better job than the banks did in 2008 to work with defaulted borrowers and implement loss mitigation to keep borrowers in their home. So, not only have loss-mitigation options like partial claims improved, but their execution is much better.
How did this work during COVID? The answer was just fine, thank you. Take Federal Housing Administration (FHA) single-family loans. FHA’s 2022 Annual Report noted that FHA helped more than 1 million homeowners in 2022 who were behind on their mortgage payments obtain an FHA COVID-19 Forbearance and/or an FHA COVID-19 Recovery option to stay in their homes. The percentage of serious FHA delinquencies fell from 11% at the height of COVID to less than 5% at the end of the last fiscal year.
And FHA, under Commissioner Julia Gordon, continues to refine the partial claim tool to improve it. Last year, FHA launched a new partial claims payoff portal to streamline information about partial claims payments and also announced a 40-year loss mitigation option. In May of this year, FHA announced a new partial claim option that could obviate the need for servicers to buy loans out of pools, a move CHLA applauded, since it would avoid costly re-pooling in a rising mortgage rate market.
Fannie Mae and Freddie Mac have also developed strong loss-mitigation tools. In March of this year, FHFA announced new enhanced payment deferral policy for borrowers facing financial hardship. FHFA Director Thompson noted that Fannie and Freddie have “completed more than one million COVID-19 payment deferrals during the pandemic, helping borrowers nationwide to stay in their homes.”
The Department of Veterans Affairs (VA) should also be commended for its proactive response to COVID-19 in its guaranteed mortgage loan program. Additional flexibilities adopted by VA included more options in its home retention waterfall, allowing borrower deferments, and creating a VA Partial Claim Program and a refund modification option.
VA is also developing a Servicing Purchase Program (VASP), where the VA would purchase the loan from the servicer, modify it to a very low rate, and service the loan directly for the remaining life of the loan.
The 2008 Housing Crisis was a nightmare. But there was one silver lining. Like a Phoenix rising from the ashes, not only did our economy and housing markets recover, but our homeowner retention programs born in this period have become an unparalleled success. And that is a story that must be told.
Scott Olson is the Executive Director of the Community Home Lenders of America (CHLA)and was the Housing Policy Director for the House Financial Services Committee at the time of the 2008 Housing Crisis.