Rescuing Mortgage Holders
LIKE MOST other politicians, President Bush basically ignored the subprime crisis while it was incubating. Last week, though, he unveiled a proposed fix -- and not a moment too soon. A month from now, $50 billion worth of adjustable rate mortgages will "reset" from the low interest rates at which they originated in October 2005 to much higher rates that will be due for the next 28 years. Hundreds of thousands of people are about to be hit with 30 to 40 percent increases in their monthly payments. Since house prices are falling and October's resets are just the first of many, a long wave of foreclosures seems inevitable.
The U.S. economy is going to take a hit, though no one can say when or how big. Government's challenge is to limit the damage -- especially to low- and moderate-income borrowers -- without protecting lenders and investors from the consequences of their own bad business decisions. In this respect, with his plan, Mr. Bush wisely resists calls from some Democrats to let Fannie Mae and Freddie Mac buy up "jumbo" loans in expensive markets or loosen current limits on the size of their portfolios. That form of relief is too indiscriminate; it would prop up the price of houses generally, including the many that were bought by speculators. Single-family housing is already heavily favored by government -- through the mortgage interest deduction, the implicit federal guarantee to Fannie and Freddie and other policies. Lower prices are tough on current owners. But they benefit people who could not afford to buy previously.
The president's proposal appropriately focuses government resources where they are likely to do the most good: on subprime borrowers who are behind on their payments but have the means to handle modified loans at reasonable terms. In this, he agrees with leading Democrats, who never claimed that everyone can or should be saved. Democrats have, however, correctly argued that, given the huge costs of foreclosure -- to borrowers, lenders, middlemen and bond buyers -- it would be in everyone's interest to renegotiate where possible.
To qualify for a new government-backed Federal Housing Administration loan under Mr. Bush's proposal, homeowners must have a history of on-time payments before their reset, a steady job and at least 3 percent equity in the house. They also must pay a risk-based mortgage insurance premium. The plan will help an additional 80,000 borrowers refinance into FHA loans in 2008, on top of 160,000 already expected to do so. These people probably should have been in the FHA program in the first place but may have been steered away from it by subprime lenders.
Other borrowers may be able to renegotiate with private lenders, if they get modest federal help. The president suggests protecting low-income borrowers who succeed in modifying their loans from the federal income taxes that would normally apply to loan reductions, a proposal that Democrats should find supportable since it already enjoys some bipartisan backing in both houses.
At the moment, however, there are few places borrowers can go for technical and legal help. According to the Center for Responsible Lending, a Washington-based nonprofit, a fifth of all subprime mortgages made in California since 2005 are headed for foreclosure. Yet the state gets only $3 million in federal aid to counsel borrowers. That state, and others, should dip into their own resources for more aid. In addition, the Senate recently approved $100 million, and Joint Economic Committee Chairman Charles E. Schumer (D-N.Y.) has advocated tripling that. If it helps lenders and borrowers come to mutually agreeable new arrangements, these federal dollars would be well spent.