By Kenneth R. Harney
Saturday, January 12, 2008

The rolling tsunami of home-loan delinquencies and foreclosures is exposing serious problems in the mortgage industry's capacity to quickly handle borrowers' requests for help -- whether loan modifications, rate freezes or short sales to ward off foreclosure.

It is also bringing to light impediments to quick resolutions, such as the presence of home-equity lines or second mortgages. People with popular "piggyback" combinations of first and second mortgages, and hundreds of thousands of consumers with outstanding equity lines, could face complications they never imagined.

"It's insane," said real estate lawyer Nancy Gusman of Largo, who represents financially distressed homeowners seeking to avoid foreclosure. "Servicers tell everybody, 'Call us as soon as you have problems making the monthly payment.' But then the borrowers call and are told: 'Oh, no, we can't talk to you about a loan modification. Your file is in the collections department,' " not the loss-mitigation department where loan modifications and short sales are handled, " 'because you're only 30 days late.' "

Gusman said some loss-mitigation departments delay getting involved until borrowers are seriously delinquent, 45 to 90 days behind.

"So I find myself telling clients: 'Look, if they aren't working with you, maybe you shouldn't make any payments for a couple of months. Then they'll pay attention.' That's a ridiculous situation."

Major mortgage-market players concede that the volume of requests from distressed borrowers -- stimulated in part by widely publicized industry and White House pledges of rate freezes and workouts -- is challenging the ability of loan servicers to keep up.

Robert Padgett, director of nonperforming loan servicing for the mortgage finance firm Freddie Mac, said mishandling of troubled accounts among collection departments and loss-mitigation and workout departments is a problem. "The collection folks are trained to recognize loss-mitigation opportunities early" and are supposed to push them through quickly to the specialists who can custom-craft workout solutions. But, clearly, that doesn't always happen.

Gusman complains that even when the loss-mitigation staff gets involved, "things can drag on for months because [the servicers] fail to negotiate with you in good faith." For example, she said, one of her clients is eager to participate in a short sale instead of going to foreclosure. In a short sale, the lender agrees to accept less than the principal balance owed by the defaulting borrower as an alternative to the higher losses associated with a foreclosure.

But in this case, Gusman said, the servicer demanded a higher sale price than indicated by the would-be purchaser's appraisal. The servicer then referred the case to the owner of the mortgage -- Freddie Mac -- where contentious negotiations have continued over an acceptable final price.

There is still another complication, Gusman said, one that could affect thousands of short sales in 2008 across the country: Besides first mortgages, many houses have large home-equity lines. As junior liens, credit lines can be totally wiped out in foreclosures, leaving the bank that extended them empty-handed. However, for short sales to proceed, all lienholders generally must agree to the terms of the deal.

In a pending case involving one of Gusman's clients, there is an $80,000 equity-line debt on the property. The bank says it wants nothing less than 50 cents on the dollar -- $40,000 -- while the owner of the mortgage, Freddie Mac, generally limits its offers to 10 cents on the dollar.

Padgett agrees that the presence of home-equity lines, second mortgages and other liens can seriously gum up short sales -- even torpedo them -- if the junior lienholders won't cooperate and take a fraction of what they are owed.

Some banks holding large equity lines -- $100,000 and up -- "play hardball to the bitter end," Padgett said, and can slow what should be a quick short sale for months.

Other issues that are bubbling up to complicate quick resolutions in distressed mortgage situations: