After 20 years in their house, Jaime and Juana Coronel lost it to foreclosure when Jaime’s landscaping work dried up in the recession and the couple fell behind on payments.
As the eviction process dragged on, the Coronels regained their financial footing and wanted to buy the house back from its new owner, Fannie Mae. The mortgage finance firm was eager to offload the modest ranch house in a working class suburb just east of Los Angeles.
“We asked, ‘Why don’t you sell it to us?’ ” Juana said.
But an independent regulator that holds enormous sway over the mortgage market essentially put the kibosh on those kinds of arrangements, triggering a public confrontation with the Obama administration and even a lawsuit.
Millions of “underwater” borrowers like the Coronels were left without equity in their homes after the housing market tanked and home values plunged. These borrowers owe more on their mortgages than their homes are worth, making it tough to refinance or sell if they run into financial trouble.
One of the most effective ways to ward off foreclosure in such cases is for lenders to reduce the size of the loans. Policy makers and many of the nation’s largest banks reluctantly have come to embrace this type of debt relief — called principal reduction.
Buy-back arrangements like the one the Coronels requested amount to a principal reduction. The couple is asking Fannie to sell them the home at its current market value, which essentially would leave them with a smaller mortgage and lower monthly payments while positioning them to build equity if home values rise.
The Federal Housing Finance Agency won’t allow Fannie Mae and Freddie Mac to take part in these kinds of deals. The regulator, which oversees the two government-backed mortgage giants, fears that principal reductions will entice homeowners to intentionally default on mortgages in a bid to get cheaper loans.
Now that Melvin Watt is in charge, all eyes are on him.
Toward the tail end of his two decades as a North Carolina congressman, Watt pushed for targeted principal reduction for underwater homeowners. But he’s been silent on the issue since taking the FHFA post in January, except to say he’s studying it. Watt, a Democrat, downplayed his previous support for such debt relief when pressed about it during his Senate confirmation hearing.
“You’ve got to understand that I was a member of Congress representing my constituents, many of whom were underwater, and advocating for relief for them,” Watt said.
While home prices have climbed during the past two years, about 16 million borrowers remain underwater or close to it — and Fannie and Freddie own a portion of those loans. A high concentration of them are in poor and minority communities, underscoring the lingering effects of the housing crash and the uneven nature of the recovery, studies show. With price gains expected to moderate, many deeply underwater borrowers will likely stay there for some time.
Against that backdrop, the Coronels felt trapped in a financial vise.
After losing their home in 2010, Fannie agreed to let them rent the property. Jaime had retired by then, and the couple tapped his union pension to pay the rent, which was $430 less than their $2,180 monthly mortgage payment, they said.
Three years later, when Fannie wanted to sell the house, it moved to evict the couple. That’s when the Coronels approached the company about buying it back. They were pre-qualified for a loan that they could afford given Jaime’s pension and the Social Security checks they receive, Juana said.
Fannie agreed to sell it to them — for $452,000, the amount they owe on their loan. (They owe this much in part because they refinanced into what they now recognize were abusive lending terms, they said.) But the home is worth about $260,000, said Peter Kuhns, an organizer at the Alliance of Californians for Community Empowerment, a grass-roots group funded with dues from members, including the Coronels.
Fannie’s offer made no sense, Kuhns said. It refused to sell the home to the Coronels for the same price it would ask of anyone else, including Wall Street firms, he added. “What often ends up happening is big Wall Street-backed investors come in, buy the property and turn it into a rental,” he said. “How does that help the local economy or the neighborhood?”
So the Coronels, who have yet to be evicted, pushed back.
In June, Fannie offered to modify their mortgage and shave the amount they had paid in rent off the loan. Watt even weighed in, and urged the couple to keep working with Fannie. But, he emphasized, a principal reduction is off the table.
“While we continue to study this issue carefully, at this time neither Fannie Mae nor Freddie Mac offer principal reduction in the form of a discounted payoff for a new refinance or as a component of a modification,” Watt wrote in a letter e-mailed to Kuhns.
It’s this position that got FHFA entangled in a legal dispute with the state of Massachusetts, which enacted a law in 2012 that allows nonprofit groups to buy foreclosures and resell them to the former owners at current market value. (Maryland has enacted a similar law.) But because FHFA will not permit such transactions through Fannie and Freddie, Massachusetts Attorney General Martha Coakley sued, alleging that all three are flouting state law.
Watt did not stake out the agency’s position on that front.
Rather it was his predecessor Edward J. DeMarco, who concluded that the potential benefit of principal reductions was “too small and uncertain relative to the known and unknown costs and risks.” DeMarco said rewriting valid contracts to lower the amount of a loan could spook investors who own the mortgages and encourage homeowners to game the system.
The fear was that such relief would be costly for taxpayers, who had already ponied up billions of dollars to bail out Fannie and Freddie after the government seized them at the height of the financial crisis.
But the Treasury Department, citing FHFA’s data, was convinced that the net benefits to homeowners and mortgage investors would outweigh the costs. It leaned on FHFA to allow principal reductions through the government’s main foreclosure prevention initiative, known as the Home Affordable Modification Program. In 2012, it even offered to pay Fannie and Freddie to participate, but to no avail.
In an interview, the Treasury Department’s housing adviser, Michael Stegman, said the administration’s position has not changed. It supports principal reductions targeted to deeply troubled borrowers if the cost of the debt forgiveness would produce an affordable mortgage for borrowers and a cheaper alternative to foreclosure for the investors who own the mortgages.
“The invitation to FHFA is still open,” Stegman said.
This month, more than two dozen groups — including the AFL-CIO, the NAACP and the National Council of La Raza — sent a letter to Watt urging him to “swiftly reverse” the agency's policy.
So far, Watt has not responded. He has declined to comment for this story.
“I think [Watt’s] caution is an appropriate response to the political climate in which he is functioning,” said Wade Henderson, president of the Leadership Conference on Civil Human Rights, which supports principal reduction.
After DeMarco aired his views, he endured picketers descending on his home, a call for his resignation by a group of attorneys general and a “Dump DeMarco” social media campaign. DeMarco declined to comment for this article.
Watt has not escaped unscathed. His nomination riled up conservative groups and Republican lawmakers, who singled out his past support of debt relief as reason to sink his confirmation. By then, Republicans had already derailed Obama’s initial pick to replace DeMarco, Joseph A. Smith Jr., in part because Smith had supported debt forgiveness.
Now that Watt is in, housing advocates want action.
“It doesn’t have to take any longer than it’s already taken to reverse what we’ve known is a destructive policy,” said Kevin Whelan, national campaign director for the Home Defenders League. “This is a specific policy that really can be changed quickly,”
In the wake of the housing bust, the concept of principal reductions didn’t take off until 2012, when the government’s $25 billion settlement with banks over fraudulent foreclosure practices forced the industry to reduce loan balances for many underwater borrowers, said Laurie Goodman, director of the Urban Institute’s Housing Finance Policy Center.
Principal reductions climbed steadily after that, peaking at a 20 percent share of all the mortgage help that troubled borrowers received in December 2012, Goodman said. They started to trail off last year as home prices climbed and fewer borrowers were underwater.
Still, there are about 1.6 million more foreclosures than is typical in a healthy market, so it makes sense for FHFA to allow for limited and well-targeted principal reductions, especially in communities with deep-seated problems, said Mark Zandi, chief economist at Moody’s Analytics.
“Everyone involved is becoming much less rigid about this,” said Mark Zandi, chief economist at Moody’s Analytics. “People are feeling more relaxed about going down this path, and other loan modification programs are moving in that direction.”
Maybe Watt himself is starting to soften up.
In an unusual turn this month, Fannie notified the Coronels that, after consulting with FHFA, it has decided to sell them the house at its current market value. The price will be determined by an independent professional.
In a statement, Fannie said the decision does not signal a change in policy. “In certain instances and based on unique circumstances, we offer post sale solutions to borrowers to help them stay in their homes,” the company said. FHFA, in a separate statement, also said it too always reviews the options available to struggling borrowers.
As they wait on the appraisal to know how much the house will cost, the Coronels are anxious.
“I’m satisfied and nervous at the same time,” Juana said. “I want to make sure we get a fair price. But this is very much better than the situation we were in before.”