How the Rescue Affects Homeowners

Whether you see it as an exorbitantly costly taxpayer bailout of Wall Street and the banks or you're cheering from the sidelines, you can agree: The new federal moves to rescue the mortgage system could have huge effects on consumers in the months ahead.

The chief architect of the plans, Treasury Secretary Henry M. Paulson Jr., says the costs could run into the "hundreds of billions" of dollars -- and that probably means higher taxes somewhere down the line.

On the other hand, Paulson argued persuasively to Congress that the costs to taxpayers of not acting, and allowing the global financial system to unravel day by day, would ultimately be much higher.

The jury will be out on that issue for years. But for consumers, especially those looking for a new mortgage or who are deep in trouble on their house payments, the plan could have more immediate, life-changing effects. Here's why:

A key part of the Treasury's plan requires no approval from Congress -- pumping billions of dollars of fresh capital into the home loan market through purchases of mortgage-backed securities. The Treasury already is committed to inject $10 billion this month, and it is expected to announce substantial purchases for an extended period.

Fannie Mae and Freddie Mac, now under conservatorship by the federal government, also have been directed to accelerate their investments in mortgage securities. The effect should be to supply additional dollars for home buyers and refinancers, and to keep a damper on interest rates. So far, so good: Rates for 30-year, fixed-rate loans have remained near 6 percent.

A second key impact of the rescue plan addresses the dire situations faced by the estimated 5 million homeowners who are behind on their mortgage payments, many of whom own houses that are worth less than the principal balances owed.

The new government-controlled entity that will buy portfolios of troubled mortgage assets from lenders and bond investors is likely to take a different approach to delinquent borrowers than does the private sector. Rather than the slow, loan-by-loan modification typical of banks -- what are known as "workouts" to lower rates, payments and even loan balances -- the new government entity is likely to adopt a fix-the-problem-in-bulk approach advocated by the Federal Deposit Insurance Corporation, the regulator and insurer of federally chartered banks.

The FDIC has decades of experience handling the acquired assets of failed banks, including, recently, the giant IndyMac Bank, which went under in July. IndyMac had 742,000 mortgages in its portfolio, 60,000 of which were 60 days delinquent or at some stage of foreclosure. One of the first actions the FDIC took after stepping in to pick up IndyMac's pieces was to declare an immediate halt to all foreclosure actions, pending a portfolio-wide review.

The idea, according to FDIC Chairman Sheila C. Bair, was to whistle a time out to "evaluate the problems and identify the best ways to maximize the value of the institution." Simply pushing through scheduled foreclosures on the bank's delinquent customers would not achieve that goal because foreclosures are extremely costly to lenders -- and catastrophic financially for borrowers.

A smarter strategy, Bair said, is to work out better terms for as many borrowers as possible, turning unaffordable, delinquent mortgages into affordable loans at current income levels. The best way to do that in a large portfolio is not on a retail, loan-by-loan basis, she argued, but rather by using a "systematic" approach where all delinquent borrowers who fit pre-set criteria could automatically qualify for a modification of terms.

After an initial review of the 60,000 late borrowers in the IndyMac portfolio, the FDIC deemed about 40,000 customers eligible for the loan-modification program. Modification terms include rate reductions, lengthening of payback timetables, rescheduling unpaid principal and interest, rate caps, and other techniques. In some cases, rates are reduced to 3 percent for five years, with increases of 1 percent a year until the note rate reaches a ceiling tied to current 30-year rates.

Unlike private-sector servicers, the FDIC charges no fees for its modifications. In the two months since taking over IndyMac, Bair said, more than 7,400 modification proposals have been sent to delinquent borrowers, and "thousands more" have received calls attempting to prevent "unnecessary foreclosures."

That sort of wholesale remedial strategy -- including a halt to potentially hundreds of thousands of foreclosures -- is what probably awaits financially distressed homeowners when the new federal rescue program kicks in and acquires their mortgages.

Call it what you want. But if you're one of those troubled borrowers, two words are likely to come to mind: home saver.

Kenneth R. Harney's e-mail address is KenHarney@earthlink.net.