Bill Alters Bankruptcy Code to Help Homeowners
Morning Edition, October 17, 2007 · The House Judiciary Committee is set to vote on a bankruptcy bill that housing advocates say could help those in danger of losing their homes to foreclosure.
Lawmakers are considering changing the bankruptcy code to offer greater protections for homeowners at a time when foreclosure filings are at their highest level since the Great Depression.
The bill would let bankruptcy judges stick their gavels in the gears of the lending industry, blocking foreclosures.
The judges would gain the power to restructure home loans, for example, by forcing the lender to lower a borrower's interest rate – say from 12 percent to 8 percent. They can't do that right now.
If they are handed the authority, though, more homeowners who are filing for bankruptcy might be able to stay in their homes.
That's what Cheryl Roberson needs. She bought a house in Ypsilanti, Mich., in 1993 for herself and four children after a divorce.
"This is my first home and I bought it all by myself. I was a divorcee, single parent, and it was a wonderful accomplishment for me," Roberson said.
The Subprime Trap
She has a solid job as an executive assistant at the University of Michigan. But a few years ago, she refinanced into a subprime loan. It adjusted up to 12 percent last year, and Roberson can no longer afford it. She has received foreclosure notices.
"It's been very emotional. It's been very stressful," Roberson said. "I tried to talk to my older daughters to tell them, 'Look, they may take this house away from me.' "
Roberson's lender, a company owned by Morgan Stanley, offered to reduce the amount she owes by about $20,000. But Roberson said the company won't lower her high interest rate.
Treasury Secretary Henry Paulson has urged large companies in the mortgage business, such as Morgan Stanley, to help homeowners by refinancing their loans. Doing so would help the companies as well.
Crippling Markets, Homeowners
Delinquencies, especially in the subprime market, set off shock waves in global financial markets earlier this year and forced many mortgage companies to declare bankruptcy. Even the biggest lender, Countrywide Financial Corp., was crippled. It received a cash infusion from Bank of America to stay afloat, and recently said it would slash as much as 20 percent of its work force to lower costs and deal with defaults. It expects new mortgages to fall about 25 percent next year.
Some 2 million consumers are expected to face an increase in mortgage payments within the next two years as their adjustable rate mortgages, obtained with low introductory rates, reset higher. The loan industry takes a $50,000 hit with each foreclosure. So helping the 2 million consumers in danger of losing their homes with refinancing is as much to the lender's advantage as the borrower.
Roberson's legal aid attorney, Paul Sher, said the bill in Congress would be a huge help for borrowers like her.
"It could be tremendously beneficial to her because the judge could have kept the mortgage at the initial rate that she could afford," Sher said.
Adjusting Loan Interest
In some cases, the judge could do a so-called "cram down" on the loan amount.
"The mortgage could be limited to the value of your home. So if your home is worth $160,000 but you've got $220,000 in mortgages on it, well, the mortgage would be $160,000 and the other $60,000 would become unsecured debt," said Rep. Brad Miller, a North Carolina Democrat.
Unsecured debts are not backed by the pledge of specific collateral.
But Miller cautioned against bailing out people who were irresponsible. "If somebody bought more house than they can afford, a bankruptcy court's not going to help them," he said.
Further, the judge will have to set an interest rate that still will be a couple of points above what a borrower with good credit could get, Miller said, noting that it still would be fair.
"What will happen in bankruptcy is a lender will end up with a mortgage they should have made in the first place — not a predatory mortgage," he said.
One housing advocacy group estimates that the bill could help up to 600,000 people stay in their homes, most of whom aren't expected to wind up in bankruptcy court. The change would instead prod lenders to cut better deals with the borrowers.
'An Unmitigated Disaster'
The lending industry expressed disfavor with the idea.
"It's an unmitigated disaster," said Larry Litton Jr., CEO of Litton Loan Servicing, which manages more than $50 billion in loans. "You start giving bankruptcy judges the ability to go in and modify loans, and there's no control over that. We don't like it at all."
Gary Siponairee, a vice president with Chase, agreed: "It'd be horrible. You're going to cut out the whole segment that you're trying to help." He was referring to borrowers with lower incomes and lower credit scores.
Industry watchers said the risk of a judge intervening in the future would force lenders to insist on larger down payments and tighter standards.
They say what Congress needs to see is an industry working to help borrowers without added regulation.