Correction to This Article
The print and earlier online versions of this story incorrectly reported that the Federal Deposit Insurance Corp. has modified the home loans of 20,000 customers of the defunct IndyMac. Loan modifications have been offered to those customers.
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FDIC Details Plan To Alter Mortgages

"It is confounding to me why the Secretary of the Treasury and others refuse to understand that this is the heart of the problem," Dodd said. "Until we solve the foreclosure problem, we will not have any hope of solving the larger problem."

Many economists believe the economy will continue to suffer as long as the pace of foreclosures keeps home prices from stabilizing.

The mortgage industry is concerned that any new modification plan would persuade some people to stop making mortgage payments in addition to helping people who already have stopped making payments. The industry argues that this would translate into higher interest rates because investors would demand compensation for the increased risk of loan defaults. That, in turn, would limit the number of people who can afford mortgage loans.

The industry has particularly opposed the idea of allowing bankruptcy courts to modify mortgage loans. The courts have the power to modify other kinds of debt to levels that are affordable for the borrower, including mortgage loans on second homes, but the industry won an exception years ago for mortgage loans on primary homes. Consumer advocates want Congress to change the law, viewing the court system as an efficient way of modifying loans at no cost to taxpayers. The industry continues to caution that the consequences would be considerable.

"The longer-term issues may be greater than the short-term gain," Bank of America executive Anne Finucane said in testimony before the Senate Banking Committee yesterday.

That line of reasoning held sway in Congress for years. But Dodd said he has seen a change in the Senate.

"I think we're getting to the tipping point with some of my colleagues that they will accept the gravity of this situation," he said.

President-elect Barack Obama expressed support for allowing bankruptcy courts modifications during the campaign. He has not commented on a plan of the kind proposed by the FDIC.

In the early stages of the foreclosure crisis, mortgage companies insisted that loans could be reworked only on a case-by-case basis. That sharply limited the pace of modifications. FDIC officials estimate that even now, companies are modifying only 4 percent of seriously delinquent loans each month.

Bair has argued for more than a year that loans should be reworked according to a standardized formula to hasten the pace. This summer, she established her own demonstration project after the FDIC, which is primarily responsible for insuring bank deposits, seized control of IndyMac Bancorp, a California mortgage lender.

That effort has influenced several other home loan modification programs, including an announcement Tuesday by mortgage giants Fannie Mae and Freddie Mac. But that program is limited in scope. It applies only to the relatively conservative loans owned by those companies, includes only borrowers who have missed at least three monthly payments and reduces payments to equal 38 percent of monthly income.

The FDIC program would focus on the alternative and subprime loans that sprang up during the housing boom and would offer borrowers much deeper cuts in monthly payments. The FDIC estimates that 1.4 million borrowers with such loans are at least two months late on their payments, and another 3 million borrowers will miss at least two payments by the end of next year. The agency estimates that half those borrowers, or about 2.2 million people, would receive a loan modification under the program, and that about 1.5 million will successfully avoid foreclosure.

Under the terms of the proposed FDIC program, lenders would reduce monthly payments primarily by cutting the borrower's interest rate to a minimum rate of 3 percent. If necessary, the company could also extend the repayment period on the loan beyond 30 years, reducing each monthly payment. Finally, in some cases, companies could defer repayment of some principal. The borrower still would be on the hook for the full value of the loan.

Officials said their experience at IndyMac showed that principal reductions were not necessary. So far, the FDIC has offered loan modifications to about 20,000 IndyMac loans. In 70 percent of the cases, the FDIC was able to create an affordable payment solely by reducing the interest rate. In 21 percent of the cases, the agency also extended the life of the loan. In 9 percent of the cases, it delayed repayment of some principal.

The plan includes a careful mix of carrots to encourage industry participation and sticks to encourage maximum modifications. Mortgage companies would be paid $1,000 to modify each loan, but participating companies must agree to modify as many loans as possible.

The loss sharing guarantee begins only after the borrower has made six payments on the modified loan. And the government would not cover losses on loans where the modification did not lower the monthly payment by at least 10 percent.


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