Getting a Second Opinion on Second Liens

The Senate Banking Committee chairman Chris Dodd, D-Conn., and House Financial Services Committee chairman Barney Frank, D-Mass., late last week dispatched a letter to the heads of bank regulators, calling for action on the issue of second liens. Second mortgages held on banks’ balance sheets, according to the congressmen, might be virtually worthless now that house prices across the country have plunged so many homeowners underwater. The Hope for Homeowners (H4H) program launched last fall — long before the current administration’s Making Home Affordable Program (MHA Program) — to help struggling borrowers adjust their mortgages to 90% of the assessed property value. The program, the lawmakers say, keeps borrowers out of foreclosure and reduces the risk of even greater losses posed to mortgage companies if the homes went into foreclosure. The problem, according to Dodd and Frank, is that second lien holders refuse to consent to the H4H program because they believe the liens may be worth more than they really are. “In recent discussions with servicers, investors in mortgage backed securities, and Administration officials, it has become clear that one of the most significant impediments to the success of H4H is the unwillingness of subordinate lien holders to extinguish their liens as required for participation in this program, even in return for offers of reasonable compensation,” the letter reads, in part. The solution offered by the lawmakers involves banks’ participation in associating more realistic values with the second liens held on their balance sheets. “Carrying these loans at potentially inflated values may contribute to resistance on the part of servicers to negotiate the disposition of these liens, and thus may stand in the way of increasing participation in the H4H program,” the letter concludes. “Inadequate reserving would also overstate the capital position of these institutions at a time when an accurate picture of the capital adequacy of the banking system is crucial.” Second liens — or second mortgages sometimes piggybacked on top of first mortgages for borrowers without 20% to put down — raise an issue for the investor. With inherently higher interest rates (and lower principal balances) than first mortgages, these types of loans must face substantial modification — or be extinguished outright — if H4H is to have a substantial effect. And second lien holders appear hesitant, despite the $50bn in rescue funds intended by the Treasury Department to help facilitate the modification of second liens along with first mortgages in the Making Home Affordable Modification Program. For the time being, servicers handle the issues arising from second liens during the H4H modification process on their own, but the lawmakers and the administration may intervene soon, a source within a major mortgage lender/servicer tells HousingWire on condition of anonymity. The source says borrowers there have long complained the H4H process is slow and the results disappointing. “Second liens are a complicating factor in an already complicated arena,” says the source. “They turned out to be a much bigger issue than everyone thought when H4H was designed. We as an industry have to get this sorted out.” The issue of second liens, however, all but dropped off the radar in recent months, according to Scott Stern, CEO of Lenders One Mortgage Cooperative. Despite talk of the administration’s MHA Program having dwarfed discussion on second liens recently, it’s a timeless issue as long as the underlying complication remains. Stern tells HousingWire second lien holders have a vested interest; they want to hold on to the second lien in hopes home values recover and the second lien becomes valuable again. Imposing industry regulations to assist the borrower and wipe out second liens would come at the expense of the second lien holder, he says, but doing nothing would be even worse. “I don’t think it’s fair to ask second lien holders to walk away or reduce the value of the asset,” Stern continues. “But if they don’t do either of those, they prevent the problem from being eliminated.” Instead, Stern suggests a move to modify borrowers’ first mortgages into more affordable ranges would not only boost their performance on first liens, but improve an investor’s position as second lien holder. A borrower maintaining payments, he says, makes the mortgage worth more and protects the second lien holder from financial loss posed by foreclosure. Write to Diana Golobay.