While the housing outlook has certainly improved significantly, some 5.1 million homeowners remain underwater on their mortgages.
This means they are unable to sell their homes because they owe more than their properties are worth, and possibly barred from a mortgage refinance unless they can take advantage of a program like HARP.
While 5.1 million is a lot less than it used to be, it still represents more than 10% of all homes with a mortgage, per data from CoreLogic.
Additionally, some two million of these unlucky homeowners owe at least 25% more than their homes are currently worth.
Clearly this doesn’t provide much motivation to stick around and make costly monthly mortgage payments, especially if these homeowners can’t take advantage of the current low mortgage rates.
Principal Reduction Today for Your Appreciation Tomorrow
Enter a new bill aimed at tackling the problems associated with underwater mortgages, like high default rates and zombie foreclosures, the latter of which results in property blight.
The so-called “Preserving American Homeownership Act,” introduced this week by U.S. Senator Robert Menendez (D-NJ) is essentially a shared equity mortgage modification program.
It’s supposed to be a win-win situation for both homeowners and lenders, giving each party motivation to modify and keep up with payments, respectively.
The way it works is fairly simple. A borrower with an underwater mortgage has their principal balance reduced to 100% of the current value, provided the borrower can make payments.
The principal reduction takes place over a period of three years or less, in increments of one-third each year. So if borrowers make timely payments their principal balance will be reduced further over time.
The mortgage rate may also be cut if the principal reduction isn’t enough to make payments affordable.
Once it comes time to sell or refinance, the bank (or investor) will received a fixed share (up to 50%) of the increase in the home’s value. This amount cannot exceed twice the dollar amount of the principal reduction.
The value will be assessed via appraisal when the borrower first enters the pilot program, and again when they sell or refinance.
The program would be available on primary and secondary homes, and borrowers would be eligible regardless of how deeply underwater they are.
The plan is to launch two pilot programs, one under the FHFA and another under the FHA.
Menendez noted that a similar program launched by a private mortgage servicer led to a near-80% participation rate and a re-default rate of just 2.6%.
That sounds pretty good, especially when you’re giving away half of your future appreciation. The question is whether this type of relief comes a little too late in the game.
But for those who really love their homes and want to remain in them, it could be a lifesaver seeing that widespread principal reduction never came to fruition.
(photo: Jonathan McIntosh)