The Boston Federal Reserve Bank has studied two of the leading causes of foreclosures across the country, and neither of these causes are the often-cited "unaffordable mortgage payments" due to resetting loans. The two main causes of the high foreclosure rate and failure of loan modification programs are declines in home values and job loss.
The housing market bubble encouraged speculation and buying of homes (or second and third homes) as investments. Now that prices have fallen in the most overheated markets, homeowners are more than willing to walk away from a losing investment than to keep making payments, whether they can afford them or not.
The fall in prices has always been a sticking point of government plans to address the foreclosure crisis. Many of these plans have required lenders to mark down mortgages to be in line with current fair market values, forcing the banks to recognize large losses just to unload a home that may face foreclosure. But the banks have been unwilling to acknowledge these falls in value, opting for foreclosure and bailouts instead.
Also, the government plans to help borrowers fail to address the problem of speculators who took out mortgages hoping for 20 or 30% price increases in a year who never had any intention of living in or improving the property. Homes were seen as little more than expensive, low risk, high reward stocks, and now these investors are just walking away from losers.
Without the huge appreciation rates experienced during the boom, these homeowners do not want to keep paying for their properties. A loan modification to a lower monthly payment will not change the fact that the value of the property has fallen and that it will be difficult, if not impossible, to sell it for a realistic price. Walking away is seen as a more convenient, quicker option.
The issue of job losses due to the economic recession is also a change in a family's financial circumstances that may lead to a delinquency that loan modification will not fix. Banks are notoriously difficult to negotiate with for a reasonable modification, and a significant change in income is almost a guaranteed way to get turned down without professional assistance.
Unfortunately, the redefault rate on government assisted modification programs is disturbingly high. This may be due to the fact that the programs are meant to solve the issue of "unaffordable mortgages," but are being used by borrowers to remain in their properties for a few extra months before falling behind again or deciding to walk away.
Real estate speculators may be able to secure a modification from their bank in the hopes of the market improving over the next few months. When property values remain stable or decline even further, continuing to pay for the overvalued property (even with the payment lowered) is still a losing option for investors.
For homeowners who have experienced a job loss but qualify to modify their loan, they may discover that they can not keep up with the payment because their income has fallen too far. In fact, selling the home at a short sale and finding a rental may be a better option at this point, instead of throwing scarce money at an expensive negotiation plan.
While rate adjustments have caused severe damage to borrowers, it is not the main cause of the foreclosure crisis. The fall in housing values and the recession are taking more out of borrowers than a subprime mortgage. Thus, the plan to fix the foreclosure rate by modifying "unaffordable" loans will not be nearly as effective as politicians seem to believe.
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