Beyond the critical and heart-wrenching health and economic worries stemming from the COVID-19 crisis, a new wave of mortgage default foreclosures is on the horizon.
The results of the Great Recession are still fresh in our minds: Between 2007 and 2016 about 7.8 million households lost their homes due to foreclosure. As household incomes decline as a result of unprecedented job losses in the wake of the coronavirus pandemic — 17 million unemployment claims were filed in only three weeks, and millions more are expected — mortgage payments will be difficult or impossible for millions of people. According to the Mortgage Bankers Association, requests for forbearance jumped more than 3,000 percent in March alone. Although emergency measures are being implemented to allow homeowners to miss mortgage payments for several months, these steps are short-term and will lapse long before household incomes are restored.
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At the same time, the real estate market in many areas will probably see reductions in house prices, with many homeowners owing more on their mortgages than they can get through a sale of their homes. Lower-income households will be particularly vulnerable, with the likelihood of disproportionately adverse impacts for people of color.
Since there will be a lag between the current financial crisis and the impending foreclosure crisis, likely about two years, there is time to craft policies that will respond to the challenges.
The US Department of Housing and Urban Development, along with the Federal Housing Finance Agency, should play a leadership role in advocating for policies and programs that focus on homeowner and tenant needs — with the goal of preventing foreclosures and keeping people in their homes — while also exerting a strong regulatory presence. Together, these agencies need to serve as a moral compass in directing private-sector actions and procedures that ensure that consumer needs are viewed as a priority, while safeguarding the safety and soundness of the financial system.
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The following observations are based on information presented in a series of issue briefs, which will be released by the Federal Reserve Bank of Boston and the Joint Center for Housing Studies of Harvard University.
Clear lines of communication between mortgage lenders/servicers and homeowners. When problems arise, homeowners and lenders need to communicate effectively and efficiently. Although temporarily suspended due to current public health concerns, HUD requires servicers of FHA-insured loans to offer homeowners in serious default a face-to-face interview with the lender/servicer. While this regulation has not been followed consistently in recent years, a neutral third-party mediator, such as a nonprofit organization, can be helpful. In nearly half the states (though not Massachusetts), a judge’s ruling is required before a home foreclosure can take place. Indeed, in these “judicial foreclosure” states, the time from default to foreclosure is much longer, which provides the homeowner more time to try to modify the loan or find another mechanism for remaining in their home. We need more information on the types of virtual interactions, particularly involving a mediator, that will yield the best resolutions.
Government should buy loans in default and refinance or provide incentives for lenders to do the same. The government or another investor can step in to purchase loans in serious default and renegotiate the terms of the loan, so that payments are more affordable to the homeowner. This strategy was used during the Depression era, in the form of the Homeowners Loan Corporation. In 2012, HUD launched a somewhat similar program for its FHA-insured loans in serious default. Any future loan-sale program must ensure that homeowners in default are provided full information about the impending sale and that the steps the new servicers take to assist homeowners are carefully delineated and are at least as robust as those for unsold loans. A government watchdog agency could ensure adherence to the loan servicing guidelines, with stiff penalties for noncompliance. Nonprofit organizations that are experienced working with homeowners in default could be involved as central actors in such an initiative.
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Principal debt forgiveness. Reducing the amount of principal owed on the mortgage is a major way to help homeowners in default, but it was utilized only infrequently by lenders/servicers during the mortgage crisis of the last decade. Further study is needed on how best to implement such a policy, either as a permanent write-down or as a loan repayable upon the sale of the home. HUD’s experiences with a similar initiative should be included in this assessment. The challenge is to develop a principal debt reduction policy, which does not encourage so-called “strategic defaults,” by mortgagors who are not in financial distress. A HUD-approved counseling agency could be involved in approving requests for principal debt reduction to ensure the legitimacy of the claim.
Foreclosure-to-rental-to-ownership program. Innovative mechanisms are needed to enable homeowners who are unable to meet their mortgage obligations to rent their homes from the lender or from another third party. Such a policy, along with a marked increase in rental vouchers, would enable people to stay in their homes and mitigate the adverse neighborhood impacts of foreclosure. The ultimate goal would be to offer homeowners the opportunity to buy back their homes at current market prices. HUD-certified counseling agencies and other independent, nonprofit organizations could be key in ensuring that an owner-buyback policy is used appropriately, thereby avoiding fraudulent or sham transactions.
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All these initiatives will require infusions of capital from the federal government, as well as significant involvement of the private for-profit and nonprofit sectors. Creating mechanisms to prevent foreclosures, while also ensuring that the liquidity needs of the financial sector are fully addressed, are among the most pressing challenges as the country seeks to manage the coronavirus pandemic.
Rachel G. Bratt is professor emerita at Tufts University and a senior research fellow at the Joint Center for Housing Studies of Harvard University.