Follow up: Refinance America: A New and Improved Plan
In a recently published study by the Federal Reserve they confirm what millions of
American homeowners know first hand and what most professionals in the housing
finance industry have known for over a year:
namely, that millions of American
homes are unable to be refinanced - despite historically low interest rates -
due largely to the fact that many of these homes are either underwater (meaning
the current loans balance exceeds the current property value) or the home's
owners fail to qualify for refinance loans due to tighter credit standards. The
Fed's study would suggest that at least two million American homes are eligible
for refinance but for these conditions.
Despite this reality, Washington seems unable to come up
with a solution. Prior efforts such as HARP (Home Affordable Refinance
Program), though well intentioned, quite frankly have failed. The failure is due in no small part to the
fact that the eligibility criteria designed by regulators have been too
narrowly defined to accommodate a housing market where values continue to
decline and an economy that remains weak at best.
And though efforts are currently underway to design and
implement a new refinance program, it is likely that this effort to will
fail. Why? Because Washington wants to
put strict conditions on who will qualify for a refinance loan for fear of
being accused of encouraging "moral hazard" where certain unworthy home owners
benefit from the redesigned refinance program. The details of the "new"
refinance program have not yet been published and no deadlines have yet been
set for its implementation. As a result, millions of American home owners -
most of whom are current on their mortgages, by the way - continue to twist in
the wind as interest rates hit new lows nearly every day.
By contrast, I believe it is possible to implement a meaningful
refinance program by year-end that is simple to implement, rewards every
American that remains current on their mortgage, poses very little risk to
encouraging moral hazard, and, most importantly, will inject billions of
dollars of free cash flow into our struggling economy.
Here's how it would work:
Mortgage borrowers current on their mortgage for
the past 12 months and whose new
payment would be at least $50 dollars per month less than their current payment
To be clear, this would apply to borrowers who
are owner occupants and investors alike. Moreover, the program would apply to
borrowers' with first and second mortgages as well. If the new payment is less
than the combined old payments, they get rolled up and refinanced into a new
loan under this program. It's that
Detractors will surely say "... Oh my God, it can't be that
simple, what about loan-to-value ratios, what about credit scores, what about
current employment and income, what about investors who lied on their prior
loan applications, what about..., what about ..." To those detractors I say, who cares? If the goal is to enable American homeowners
to take advantage of current interest rates, reduce their current payments and
therefore free up cash for use in other parts of the American economy, then why
not let them refinance.
For God's sake, let's be honest, if someone is managing to
make their mortgage payment today at a higher rate - regardless of loan to
value, regardless of whether they are employed or have a nickel of savings -
then the odds are pretty darn high that they will continue to make their
payment if the payment drops.
Of course, nothing is ever this simple, and lenders in
today's business environment - where
their business decisions are being scrutinized at every turn - likely would be
very reluctant to originate loans under this limited guideline for fear that in
the future some regulator or politician would challenge their lending decision
as somehow imprudent. They also would likely
reasonably fear holding these loans on their balance sheets given the
implications of such loans to their future financial condition and regulatory
capital requirements, among other things.
And undoubtedly, operational bottlenecks from overtaxed
servicing and origination platforms will be an issue for the implementation of
any sort of plan. However, innovative private sector service providers and
solutions exist today to help unburden those organizations and streamline this
proposed refinance process. In fact,
under one such solution, the process could be as simple as to only require that
borrowers execute a new note or a rider to their existing note.
Even under the most streamlined scenario, however, to make
this work - and it can work, the following also would be required:
- This limited guideline would need to be memorialized into a new loan program and
published by FHA or Fannie and Freddie (or both);
- The program should be available only for a limited period - say for the next twelve (12) months - in recognition of the fact that lenders are already backlogged with refinance
- The guideline would need to make clear that the lenders' only repurchase - or rep
and warrant obligation to FHA, Fannie or Freddie - would involve the
determination of whether the borrower had been current the past 12 months and
whether the new loan payment was lower than the old loan(s). Likewise, large
lenders could not impose more onerous rep and warrant standards on smaller
lenders originating these loans and from whom they might buy these refinance
- Regulators would need to affirm that lenders' capital or reserve requirements would not need
to be increased in any way to account for the unique underwriting
characteristics of the loans originated under this program.
- A new liquidity mechanism would need to be developed so these loans could be sold
by the lenders originating them. For this, we believe that Ginnie Mae should
create a new Ginnie III security designed specifically for these loans. By doing this, the securities would enjoy the full faith and credit of the US Government and would be readily purchased by investors, including foreign ones.
The benefits of such a program if successfully implemented
could be significant both to the housing industry and the American economy:
First, for homeowners whose monthly payments would be
reduced, that lower payment would function like an immediate tax cut - Americans'
spending power would improve immediately - but with no negative implications to
the federal budget;
Second, investors (bondholders), who have interests in the
loans being paid off by these refinance loans, would be satisfied at par (or
100%) - though perhaps earlier than they might have otherwise. However, that is a far better outcome than a
situation involving government-sanctioned principal reductions - which in my
opinion is nothing less than a government-sanctioned abrogation of contract -
and the greatest example of moral hazard - and to be avoided at all costs.
And on that point, let me say, that there should be no
government-sanctioned principal reductions under any circumstances. That should
be avoided under all circumstances - even where a default and foreclosure would
Third, the cost to the government would be virtually zero.
Costs would be conditional and would be recognized by the government if and
only if borrowers whose loans were refinanced under the program defaulted. To
be clear, that is a risk the government already has through its support of
Fannie, Freddie, FHA and Ginnie Mae. Surely, it makes sense to reduce that risk
by lowering millions of borrowers' mortgage costs thereby reducing their
likelihood of default.
Fourth, and most importantly, but perhaps most intangible,
this program would revitalize consumer confidence at a time when it most needs
encouragement. It would reward those homeowners who, despite all of their
challenges and difficulties, have found a way to keep making their mortgage
If these aren't the people we should be helping, I don't
know who is.