Though there are still some snares and drawbacks for participants, one of the federal government’s most important financial relief efforts for underwater homeowners started operation on Nov. 1.
It’s a new short-sale program that targets the walking wounded among borrowers emerging from the housing downturn — owners who owe far more on their mortgages than their current home value but have stuck it out for years, resisted the temptation to strategically default, and never fell seriously behind on their monthly payments.
Industry estimates put the number of underwater owners across the country at just under 11 million, or 22 percent of all homes with a mortgage. Of these, approximately 4.6 million have loans that are owned or securitized by Fannie Mae or Freddie Mac. Eighty percent of these Fannie-Freddie borrowers, in turn, are current on their mortgage payments and meet the baseline eligibility test for the new short-sale effort.
Here’s how the program works and where the potential snares are. Traditionally short sales, where the lender agrees to accept less than the full amount owed and the house is sold to a new purchaser at a discounted price, are associated with extended periods of delinquency by the original owner. The new Fannie-Freddie program — designed by the companies’ overseer, the Federal Housing Finance Agency — breaks with tradition by allowing short sales for owners who are current on their payments but are encountering a hardship that could force them into default.
Say you are deeply underwater on your mortgage and recently lost your job or had your work hours reduced. Under the new program, you can contact your mortgage servicer and ask to participate in a Fannie-Freddie short sale for non-delinquent borrowers. You’ll need to find a qualified buyer for the house, typically with the help of a real estate broker or agent knowledgeable about short sales who will list the property and obtain an offer and communicate the details and documentation to the servicer. If the proposed short-sale package is acceptable, the deal would then proceed to closing weeks — or months — later.
Eligible hardships under the new program run the gamut: job loss or reduction in income; divorce or separation; death of a borrower or another wage earner who helps pay the mortgage; serious illness or disability; employment transfer of 50 miles or greater; natural or man-made disaster; a sudden increase in housing expenses beyond the borrower’s control; a business failure; and a you-name-it category called “other,” meaning a serious financial issue that isn’t one of the above.
Borrowers who take part in the new program can expect to rid themselves of the money-devouring albatross their mortgage has become — without going through the nightmares of foreclosure or bankruptcy — and to get a chance to start anew, better equipped to deal with the financial hardship that caused them to sell their house in the first place.
What about the snares in the program? There are several that participants need to consider.
• Credit score impacts. Though officials at the Federal Housing Finance Agency are working on possible solutions with the credit industry, at the moment it appears that borrowers who use the new program may be hit with significant penalties on their FICO credit scores — 150 points or more. This is because under current credit industry practices, short sales are lumped in with foreclosures. According to Laura Arce, a senior policy analyst at the agency, the government is in discussions with the credit industry to institute “a special comment code” for servicers who report the new Fannie-Freddie short sales to the national credit bureaus that would treat participants more fairly on FICO scores.
• Promissory notes and other “contributions.” In the majority of states where lenders can pursue deficiencies, Fannie and Freddie expect borrowers who have assets to either make upfront cash contributions covering some of the loan balance owed or sign a promissory note. This would be in exchange for an official “waiver” of the debt for credit reporting purposes, potentially producing a more favorable credit score for the sellers.
• Second lien hurdles. The program sets a $6,000 limit on what second lien holders — banks that have extended equity lines of credit or second mortgages on underwater properties — can collect out of the new short sales. Some banks, however, don’t consider this a sufficient amount, and may threaten to torpedo sales if they can’t somehow extract more.
Kenneth R. Harney is a syndicated real estate columnist