1 out of 8 U.S. Homeowners in foreclosure or late on mortgage payments

Reuters is reporting that 1 out of every 8 homeowners (approximately 12% of homeowners) in the United States is late on mortgage payments or in the foreclosure process. That is a staggering statistic. In California, the problem is worse than the nation as a whole, so the number is probably even higher for California. I think we are close to where the bottom for home prices should be (based mostly on income ratios), but due to all of these foreclosures, I think home prices are going to continue to drop to a number lower than what prices should be. For people with cash (and maybe first-time home buyers who can get a loan), that will be an opportune time to buy. Everyone else is in for a difficult ride.

New York Bankruptcy Court: Debtors and Chapter 13 Trustees Should Object to Stale Proofs of Claim

One issue that frequently comes up in bankruptcy cases is the filing of "stale" (i.e., beyond the statute of limitations) claims. What happens is that debt buyers, such as LVNV, purchase a large volume of debt at pennies on the dollar. When a debtor files a Chapter 13 bankruptcy, they attempt to collect on that debt by filing a proof of claim. The debt, however, may be 10 years old and the debt collector could not have pursued the claim in state court. Confronting this issue, a bankruptcy court in the Southern District of New York had the following to say:

C. Debtors and Their Counsel, If They Are Represented, and the Chapter 13 Trustee Should Scrutinize and Object to Stale Claims

In most circumstances it would be enough for the Court to stop with its ruling sustaining the objections and expunging the claims. But these claims and objections highlight a larger problem for this and other bankruptcy courts across the country. Two of the three claims at issue here were filed by LVNV, one of numerous bulk-claims purchasers that regularly file stale claims in bankruptcy courts. As stated in In re Andrews, 394 B.R. at 387, “[t]he phenomena of bulk debt purchasing has proliferated and the uncontrolled practice of filing claims with minimal or no review is a new development that presents a challenge for the bankruptcy system.”

While agreeing that the practice of bulk-claims purchasers filing stale claims is a serious problem, the court rejected the debtor’s argument that the conduct was sanctionable, as had other courts before it. Id. (citing cases). As pointed out in Andrews:

Allowing claims based on unchallenged proofs of claim is efficient
and economical in most cases. However, requiring debtors to file
objections and to raise affirmative defenses to large numbers of stale
claims filed by assignees based on a business model rather than after
careful review and evaluation is both burdensome and expensive.

Id. The solution suggested by the court was rules amendments:

The court will ask the Advisory Committee on Bankruptcy Rules
to consider whether changes should be made to the Federal Rules of
Bankruptcy Procedure and to the Official Bankruptcy Forms to alleviate
the significant burden on individual debtors and on the bankruptcy system
caused by the large number of undocumented, stale claims being filed by
the bulk purchasers of charged-off debts. . . . Finally, because the federal
rule-making process typically takes no less than three years to produce a
new rule, this issue will also be referred, with the consent of the two other
judges of this district, to the Local Rules Committee . . . .

Id. at 389.

Unless and until local or national rules changes are made, it is incumbent on debtors, their counsel, and the Chapter 13 Trustee, carefully to scrutinize proofs of claims to identify and object, if appropriate, to stale claims. The Chapter 13 Trustee clearly has standing under Bankruptcy Code § 1302(b)(3) to object to stale claims. See Overbaugh v. Household Bank N.A. (In re Overbaugh), 559 F.3d 125, 129 (2d Cir. 2009). Particularly in cases with pro se debtors, the Chapter 13 Trustee plays a crucial role and has an important responsibility in assuring that only proper claims are allowed and paid from the debtor’s estate.

In re Hess, --- B.R. ----, 2009 WL 1285296 (Bkrtcy.S.D.N.Y. May 06, 2009).

How Do I Modify My Home Mortgage?

One question I get almost every day is "how do I modify my home mortgage?" This website, Making Home Affordable, is good place to start. It describes the Home Affordable Modification Program and has links to all of the servicers who have signed up under the program. Most of the servicers have some information as to what is needed. Hopefully, this program will provide the necessary motivation for servicers to make reasonable loan modifications.

Mortgage Modification in Chapter 13 Unlikely

Well, it looks like Chapter 13 Mortgage Modification is dead for now. (See House Likely to Pass Housing Bill This Week Without ‘Cramdown’.) This is unfortunate, because getting voluntary modifications from servicers has been well-nigh impossible. The new administration wanted to use a carrot and stick approach to loan modifications. They got the carrot, but no stick. Without the stick, I think loan modifications are going to be increasingly rare--everybody talks about them, but no one has ever seen one. (I have actually seen them, but they are few and far between and I have only seen one that really made sense for the debtor.)

U.S. judges debunk red herring in mortgage cramdown fear

Judge Keith Lundin, author of an authoritative treatise on Chapter 13 bankruptcy, has sounded off on the reaction to the mortgage modification bill from "chicken littles" in the mortgage industry.

Mortgage bankers are in knots over proposed U.S. legislation that allows loan contracts to be broken up in bankruptcy court, fearing it will taint the core of their business and raise interest rates.

But their fight against the bill gaining momentum in Congress is an overreaction, or a red herring to prevent the industry from realizing inevitable losses, some judges said.

"Judges aren't just going to run wild," said Judge Keith Lundin, of U.S. bankruptcy court in Nashville, Tennessee.

I have often wondered why mortgage bankers have been so virulently opposed to the mortgage modification bill. My guess is that they are more concerned about artificially propping up balance sheets filled with toxic assets so that they can continue to get their bonuses. Judge Lundin addresses that issue as follows:

Bankers are merely putting off the realities of the ailing housing market, Judge Lundin said.

"If these guys are worried about value, it's about what they did, not because of what I'm going to do," said Lundin, speaking of bankers' roles in offering risky loans. "They don't want someone with authority telling them what their securities are worth, that's what they're afraid of."

Judges in the mid-1980s used Chapter 12 of the bankruptcy code to rewrite farmland values, aiding farmers who were also faced with falling commodity prices. After a year or two, the real estate market adjusted, Lundin said.

"I guarantee you, that is exactly what will happen if you allow home mortgages into Chapter 13" bankruptcy, he said.

California 90-day Foreclosure Moratorium

On February 20, 2009, the Governor signed Senate Bill SBX2 7, which puts an additional 90-day hold on foreclosures to allow for loan modifications. In cases where the lender is not willing to do a modification, this will not force them to do so. They just have to wait another 90 days. However, it will provide a little breathing space for some people.

The bill is not in effect yet and does not go into effect until 14-days after certain regulations have been drafted. And even after it goes into effect, mortgage companies can apply for an exemption upon a showing that they have an acceptable loan modification program. My personal feeling is that this will do little to stem the flood of foreclosures.

Recipe for Disaster: The Formula That Killed Wall Street

This is a fascinating article about a formula used for measuring risk on collateralized debt obligations and credit default swaps and how the misuse of that formula led to many of the problems we are experiencing now.

Mortgage Modification Bill--How do I Prepare?

I get this question all the time: How can I take advantage of the mortgage modification bill going through Congres right now?

My first answer is a caveat: We have no idea what the final bill will look like (or if it will even pass), so any action we take right now is speculative. With that caveat in mind, however, we do know that there are several pre-filing requirements that will probably be in the mortgage modification bill. There are two pre-filing prerequisites under the current bill: (1) the debtor must have requested a loan modification from the lender at least 15 days before filing (unless the filing is within 30 days of a foreclosure sale) and (2) the debtor must have received a notice that a foreclosure may be commenced. The first is easy and most of my clients have done this on their own before they ever come to see me. The second is a little more complicated because (depending on what this means), debtors would likely have to get behind on their mortgage payments to make this an option. Some people have suggested that this could refer to the original deed of trust, but I don't think I would rely upon that. However, a letter mentioning foreclosure should be sufficient. That being said, I would not advise a client to do anything that might result in them getting a foreclosure notice until after this bill has been signed, because we still do not know (1) whether the bill will be signed and (2) what provisions will be in the final bill.

View the current text of HR 1106 here.

Finally, a Voluntary Loan Modification That Makes Sense

I have gone over numerous loan modification proposals sent to my clients recently. In almost every case, the proposed modification makes no sense and you know the client will end back in the same situation in about 6 months. (One exception is modifications obtained through litigation.) However, I just saw a loan modification from Wachovia that actually made sense. It had principal reduction of about 20%, interest only payments for about 10 years and then a fully amortized principal and interest payment for the next 30 years. Congratulations to Wachovia Mortgage for doing at least one reasonable loan modification.

Credit Suise Study: Bankruptcy Mortgage Modification Bill will cut foreclosures 20 percent

Credit Suisse came out with a new study finding that if the mortgage modification in bankruptcy bill passes, it would cut foreclosures by 20%.

WASHINGTON (Reuters) - A plan to let bankruptcy judges erase some mortgage debt will help lower foreclosures by 20 percent and stabilize the troubled housing market, a Credit Suisse report concluded on Monday.

The possibility that judges could lower, or 'cram down,' a loan amount will give mortgage companies an incentive to modify more failing loans on their own, the investment bank's researchers said.

"We expect the new bankruptcy reform will increase loan mods, particularly principal reduction mods, as it is likely to both pressure and also give justification to servicers to more actively pursue principal reduction mods," the report from Credit Suisse Fixed Income Research stated.

A two-year-old housing downturn has pushed foreclosures to record levels as more families struggle to make payments on properties that are slipping in value.

Many of those sour loans were bundled by Wall Street into complex securities that are difficult to modify.

Advocates for mortgage "cram-down" argue that bankruptcy judges are uniquely able to cut through mortgage contracts and rewrite loan terms.

Late last week, Democratic leaders who control the White House and Capitol Hill agreed to push a cram-down bill early this year.

"A large percentage of delinquent borrowers could benefit from cram downs," the report states. "We expect the bankruptcy plan will provide about a 20 percent reduction in foreclosures."

A separate report on Monday warned that redrafting bankruptcy rules could scare more lenders away from the housing market and damage banks that specialize in mortgage second-liens.

"(Cram-downs) will create long-term problems for the housing market through higher mortgage rates and reduced affordability, which will likely further destabilize home values and wreak havoc on second-lien and consumer lenders," the report from Friedman, Billings, Ramsey & Co said.

Second-lien holders would likely be wiped out by a bankruptcy judge, the report concludes, and lenders that specialized in those loans will be hurt.

Many troubled consumers will be enticed by the possibility of getting relief through the courts, and increased bankruptcy filings will mean more write-offs across the sector, the investment bank stated.

"A spike in bankruptcy filings would also cause a surge in credit card losses, as lenders are required to charge off the account upon receipt of the bankruptcy notice," the report states.

(Reporting by Patrick Rucker; Editing by Kenneth Barry)

JP Morgan Chase Analysts Admit Mortgage Modification Bill a "Necessary Evil"

In this article, JP Morgan Chase analysts admitted that the proposed bankruptcy legislation would stabilize home values through decreased foreclosures.

However, the bill may be "a necessary evil," JPMorgan Securities analysts said, and others agreed. Allowing bankruptcy cram-downs would force servicers to use principal forgiveness with loan modifications. "In the long run, cram-downs can help stabilize home prices through reducing distressed sales," the analysts said.

Indeed, while redefaults remain high - a generic 25% payment reduction results in a 50% redefault rate - a 25% balance reduction, which is the type of modification a cram-down would accomplish, makes for a lower 30% redefault rate, according to Merrill Lynch data.

This may ultimately be a better alternative for bond holders as compared with the growing number of defaults and foreclosures, which is where the trend line is going, Telpner said. He pointed out that these modifications could stabilize assets in the pool even if investors are getting paid less on the dollar. "For some ABS pools, cram-downs may provide greater recovery because they serve as an alternative to writing off an increasingly large portion of the pool," he said.

(c) 2009 Asset Securitization Report and SourceMedia, Inc. All Rights Reserved.
http://www.structuredfinancenews.com
http://www.sourcemedia.com/

Citigroup's Letter

This is a link to the letter sent by Citigroup stating that they will support the Helping Families Save Their Homes in Bankruptcy Act of 2009. The letter states that with three modifications, Citigroup supports the "swift passage" of the legislation with those changes. The changes requested are as follows: (1) mortgage modifications limited to loans made before date of enactment, (2) TILA provision in bill would only apply to claims where debtor has right to rescission (won't apply to most debtors anyway), and (3) debtor must contact lender to attempt to modify before bankruptcy is filed. Regarding the last item, I understand that this provision will not apply if a foreclosure is scheduled within 30 days after the filing of the bankruptcy.

Citi Backs Bill to Allow Mortgage Modification in Chapter 13

Financial titan Citigroup, Inc. agreed to support a bill that would allow mortgages on personal residences to be modified in Chapter 13. Citigroup is one of the most influential banks in the United States and its support will hold great sway among members of the Congress on both sides of the aisle. With this news, I believe it is now likely that we will get mortgage modification in Chapter 13. The only questions are when and what will it look like?

Why Bankruptcy Professionals Care About Credit Default Swaps

This is a great article from the American Bankruptcy Institute regarding credit default swaps and why they are important to bankruptcy professionals. (Membership required to access article.)

A credit default swap (CDS) (essentially) is a contract in which the holder of the indebtedness (the creditor) pays a third party to guarantee payment of the debt. When a "credit event" occurs (e.g., default in payment), the third party is required to purchase the debt from the original creditor with a given period of time. The parties (creditor and third party) are swapping risk for return. The creditor will get less interest on the debt, but is guaranteed full payment of the principal, so the risk goes down. The third party shoulders the risk of default, but gets the increased interest to compensate for the risk.

So why does this matter in the bankruptcy arena? If a debtor calls a lender trying to workout a loan modification and the lender has a CDS on the debt, they will tell the debtor: "Why should I work out a modification with you? I'm going to get paid in full for this debt." Now, once the debt is swapped to the third party, the third party may or may not be willing to work out a loan modification based on the reason the third party bought the CDS. However, in the confusing morass of figuring out who owns the debt and which of the possible owners might be willing to work with him, the debtor usually gets discouraged and figures there is no way to save his home.

This is yet another reason why allowing mortgages of personal residences to be modified in bankruptcy makes a great deal of sense.

Modern Money Mechanics

Modern Money Mechanics is a workbook originally published by the Federal Reserve Bank of Chicago. (First publication in June 1961; last updated June 1992; now out of print.) This little pamphlet does a fantastic job of describing exactly how our money system works in the U.S. Most people have no clue how this works, but the effect of monetary policy on our everyday lives is a hot issue right now and for those who want to know, this is a good resource. (For a link to the PDF version of the workbook, click here.)

Particularly fascinating is the expansion and contraction of the monetary supply made possible by the fractional banking reserve system. You could end up with $90,000 worth of assets and liabilities based on $10,000 in deposits.

New Bill Introduced to Allow Mortgage Modification in Bankruptcy

Senator Durbin recently introduced S. 3690 that would allow modification of mortgages in Chapter 13 bankruptcy. The operative text of the legislation is as follows:

SEC. 103. HELPING FAMILIES SAVE THEIR HOMES IN BANKRUPTCY.
(a) Special Rules for Modification of Loans Secured by Residences.--
(1) IN GENERAL.--Section 1322(b) of title 11, United States Code, is amended--
(A) in paragraph (10), by striking ``and'' at the end;
(B) by redesignating paragraph (11) as paragraph (12); and
(C) by inserting after paragraph (10) the following:
``(11) notwithstanding paragraph (2) and otherwise applicable nonbankruptcy law--
``(A) modify an allowed secured claim secured by the debtor's principal residence, as described in subparagraph (B), if, after deduction from the debtor's current monthly income of the expenses permitted for debtors described in section 1325(b)(3) of this title (other than amounts contractually due to creditors holding such allowed secured claims and additional payments necessary to maintain possession of that residence), the debtor has insufficient remaining income to retain possession of the residence by curing a default and maintaining payments while the case is pending, as provided under paragraph (5); and
``(B) provide for payment of such claim--
``(i) in an amount equal to the amount of the allowed secured claim;
``(ii) for a period that is not longer than 40 years; and
``(iii) at a rate of interest accruing after such date calculated at a fixed annual percentage rate, in an amount equal to the most recently published annual yield on conventional mortgages published by the Board of Governors of the Federal Reserve System, as of the applicable time set forth in the rules of the Board, plus a reasonable premium for risk; and''.

As I have opined before (and here and here), there are many reasons why allowing mortgage modification in Chapter 13 makes a great deal of sense. Here are a couple more reasons:

1. Almost all of the mortgages in this country are held in trusts. Each of these trusts has a whole panoply of parties responsible for various aspects of the mortgage, many of which have conflicting interests. Often, the various parties to the trust don't want to act for fear of being sued or don't want to act in a way that is in the interest of the investors because that is against that parties' interest.
2. These trusts are known as REMIC trusts and are given special tax treatment. That tax treatment can be threatened if too many of the mortgages are modified.

By allowing mortgages to be modified in Chapter 13, both of these sticky conflicts are avoided and the Bankruptcy Code can accomplish what it was intended to do: give the debtor a fresh start and treat all creditors fairly.

Mortgage Companies Afraid to Modify Mortgages Because of Securitization Mess

This article from the New York Times has an interesting quote:

So far, many companies have been reluctant to aggressively reduce payments because they are afraid that borrowers might default again or that investors in mortgage securities might file suit.

Almost all of the mortgages out there have been securitized. Click here for a colloquial explanation of mortgage-backed securities. This means that the mortgages have been pooled and sold to a trust, and shares of the trust have been sold to investors. The trusts hire servicers to interact with the borrowers. Those servicers are bound by a pooling and servicing agreement, which usually provides a maximum amount of mortgages that can be modified in any particular trust. Usually, the number is around 5%. Default numbers for many of these trusts are climbing over 30% now, so there are a lot more than 5% of the mortgages that need to be modified.

However, the lenders are afraid to modify, because they might get sued by the investors. So, they are sitting pat, doing nothing, while millions of homeowners are losing homes that could have been saved with a reasonable loan modification. This is another great reason to allow modification of mortgages in Chapter 13 bankruptcy. This would remove the whole servicer/investor dynamic and would rely entirely on the value of the house. The investor couldn't sue the servicer, because it was the bankruptcy court that modified the mortgage

Bloomberg: It's Easier to Keep a Second Home in Chapter 13 than your Primary Residence

Interesting analysis on Bloomberg.com stating that it is easier to keep your rental or beach house than your primary residence. Unfortunately, this is true and, in my opinion, should be changed. Currently, the law allows you to modify mortgages on real property if the real property is not the principal residence of the debtor. If, however, the residence is the principal residence of the debtor, you can't modify it and are stuck with the terms, however horrific. Following is the story from Bloomberg:

Buy a Beach House for Shelter When Going Bankrupt: Ann Woolner

Commentary by Ann Woolner

Oct. 17 (Bloomberg) -- Say an absentee landlord owns the house next to yours. Neither of you keep up your mortgage payments.

If you both declare bankruptcy, chances are better that he would keep his place than you yours. However beloved your home or settled your family is in the neighborhood, you can't force your mortgage holder to change its terms to escape foreclosure.

The landlord can.

Bankruptcy law favors the landlord over the homeowner when it comes to modifying mortgages. It's easier to hold onto a second home at the beach -- and a boat to go with it -- than your home sweet home.

Backward? Absolutely.

A speculator with slum properties all over the city, who owns a place in Manhattan and a house at the Hamptons, gets better treatment under bankruptcy law than a salaried worker's family with only one, modest bungalow.

``Current law permits modification of any type of debt in bankruptcy except for a single-family principal residence,'' says Adam Levitin, who teaches law at Georgetown University.

``You can modify credit-card debt. You can modify student loans. You can modify debt on a yacht,'' points out Levitin.

The one item that bankruptcy can't force a creditor to alter is the loan on the roof over your head. And yet, that's the debt most deserving of modification to help the economy recover and to offer some sense of stability to the debtor.

Vacant Houses

As vacant houses scar neighborhoods and each day brings 10,000 new foreclosure filings, the surplus of empty abodes drags down an economy made sick by reckless lending.

The housing bubble's burst deflated home values below what some folks owe on them. But they still owe it, unless the lender agrees to alter the mortgage.

Otherwise, even in bankruptcy, homeowners still must meet those monthly payments toward the full principal and interest or find themselves out of their home and into somebody else's rental property, if they can afford the rent.

As foreclosures soar, so do bankruptcy filings -- almost 29 percent more in September than the year before, according to the American Bankruptcy Institute.

``We expect 1.1 million new cases by year end,'' the institute's executive director, Samuel Gerdano, said in a statement earlier this month.

Same Treatment

Why not give the primary home mortgage the same treatment in bankruptcy that goes to the second home and to every other debt obligation?

Presented with the chance to do that in April, the U.S. Senate rejected it 58-26, refusing to make it part of the housing bill. The yeas were all cast by Democrats; most of the nays came from Republicans. (Neither of the senators running for president cast votes, although Barack Obama co-sponsored it and has a similar proposal as part of his economic revival plan.)

``If the federal government is going to ride to the rescue of investment banks on Wall Street, it should also provide some relief to those who are about to lose their homes on Main Street,'' said the bill's sponsor, Democrat Richard Durbin, Illinois's other senator.

Way back then, the only rescue the government rode in for was that of Bear Stearns Cos., which was sold in March to JPMorgan Chase & Co. with help from the Federal Reserve.

Unimaginable in April were all the subsequent bailouts. But bankrupt homeowners are still waiting for help.

When Congress was voting on the super-duper, $700 billion bailout plan early this month, Democrats tacked the Durbin amendment onto it, where it stayed for days until it finally was sacrificed to woo Republican votes in the House.

Industry Opposition

The opposition stems from the mortgage industry, which says if lenders never know whether the original terms of the loan could be changed by a bankruptcy judge, interest rates on primary homes would soar by 1.5 percentage points.

``That's just laughable on its face,'' Levitin says. He says interest rates on loans for investment property tend to be only 0.38 percentage points higher than for primary homes mainly because of the extra risk that the borrower won't repay.

It will take a law to undo the restrictions imposed on home mortgages by the 1978 bankruptcy code.

``The sad thing is we've been pushing for this for about a year and a half, two years,'' says Henry Sommer, president of the National Association of Consumer Bankruptcy Attorneys.

``It probably could have somewhat ameliorated the crisis we are facing now,'' says Sommer, who practices in Philadelphia.

Maybe next year.

In the meantime, if you find yourself in bankruptcy and have two homes, don't expect your lender to cut you a deal on the one where you live.

But you just might be able to get a break on the beach house. And wouldn't that be more pleasant than that rental property next door?

(Ann Woolner is a Bloomberg news columnist. The opinions expressed are her own.)

To contact the writer of this column: Ann Woolner in Atlanta at awoolner@bloomberg.net.

Forrest Gump Explains Mortgage-Backed Securities

O. Max Gardner, III, one of (if not the) premier consumer bankruptcy lawyers in the country apparently spoke with Forrest Gump recently and got the following explanation of the mortgage mess:

Mortgage Backed Securities are like boxes of chocolates. The criminals on Wall Street stole several chocolates from the boxes and replaced them with turds that looked liked chocolates. Their criminal buddies at Standard & Poors, Moodys, and Fitch rated these boxes AAA Investment Grade gourmet chocolates, fit for a king so they could obtain the highest price and worldwide distribution. The boxes were then sold all over the world to investors and kings who loved gourmet chocolate. Eventually while eating their gourmet chocolates, the Kings and investors picked a "chocolate" out of the box to eat; bit into the chocolate and discovered it was a turd instead of a gourmet chocolate and thus, the fraud is exposed! Word spreads fast amongst the world's kings and investors who enjoy gourmet chocolates and suddenly no chocolate lover, loves or trusts American chocolates anymore around the world or wants to buy a box of American chocolate. The fear of eating turds spreads to Belgian and Swiss chocolates too. No one wants to eat turds! Suddenly, there is no market for gourmet chocolates and the fear spreads to chocolate milk, covered strawberries, and anything mixed with or made of chocolate!

Hank Paulson now wants the American taxpayers to buy up and hold all of the boxes of the turd-infested chocolates for $700 billion dollars until the worldwide market for chocolates return to normal. Yet, the turds are still in the boxes waiting for someone to bite into them again. Meanwhile, Hank's buddies who helped him make a billion dollars on turd infested boxes of gourmet chocolates, the Wall Street criminals who stole all the good chocolates, are not being investigated, arrested, or indicted.

Forrest's Mama always said: "Sniff the chocolates first, Forrest".

Surprise!! Bankruptcy Filings are Up Again.

Last year (2007), bankruptcy filings for the Eastern District of California were up almost 100% over the previous year. This year (2008), they will be up almost another 100% over last year (i.e., about 400% over 2006). Here are the nitty gritty numbers. This doesn't show any sign of cooling off anytime soon.