The mortgage settlement among the five biggest U.S. banks and 49 state attorneys general was announced with much fanfare last week. Ostensibly aimed at providing relief to beleaguered homeowners and restoring confidence in the home lending process, the deal is not likely to have much impact on either objective.
However, the financial institutions that were signatories to the agreement are probably laughing all the way to, well, to the bank.
When the action was commenced in 2010, state regulators sought to hold the large lenders accountable for the robo-signing scandal and other illegal or unfair practices perpetrated against delinquent borrowers.
What ultimately emerged was an agreement that limits the recompense due from the banks for botching the foreclosure process, and a commitment to modify some outstanding mortgages that would ultimately be foreclosed on or written down in any event. It is ironic that the primary
beneficiary may still be the financial institutions.
Part of the deal mandates $1.5 billion from the banks as payment to former borrowers who were victims of illegal or improper actions resulting in their foreclosure. This relief is available to 750,000 claimants. The net result is that the liability for bad behavior in the collection process has been established and limited to $2,000 per family.
The more interesting wrinkle lies in the agreement to write-down mortgage balances. The target for principal reduction in home loans that are past due or in serious jeopardy of imminent default is $10 billion. The vast majority of these loans are first mortgages, but few are actually owned by the banks. While the banks (and their mortgage-lending subsidiaries like Countrywide) set up the loans, most were securitized and sold to private investors and mutual funds.
The banks continue to function as servicing and administrative agents, with some authority to amend loan terms. The principal reductions themselves may well come at the expense of pension plans and retirement funds that own the mortgage bonds, not from the banks that originated them.
Here is where it gets interesting. While the banks own few of the first mortgages, they hold a ton of second mortgages written during the boom in the form of home equity lines of credit. Ordinarily, under established law, first mortgage holders must be repaid in full before any benefits accrue to second lien holders. However, by obtaining a principal reduction in their first mortgage, homeowners are much more likely to repay the second note as well, a clear benefit to the banks that made the second loans at the expense of the first priority mortgage holders.
And by the way, the largest mortgage holders (Fannie Mae and Feddie Mac), who hold 56 percent of all the outstanding loans, are excluded from the settlement.
For homeowners, the result will be uninspiring. The $20 billion in commitments over three years shrinks into insignificance compared with the estimated $700 billion in negative equity in the U.S. housing market. For that problem, only time can help. But for the banks, looks like a pretty good deal.
Get answers to financial questions on Wednesdays from our columnists who work in the financial services industry. Christopher A. Hopkins CFA, is a vice president at Barnett & Co. Submit questions to his attention by writing to Business Editor Dave Flessner, Chattanooga Times Free Press, P.O. Box 1447, Chattanooga, TN 37401-1447, or by emailing him at dflessner@timesfreepress.com.