In an exclusive phone interview with MortgageOrb.com, Rep. Barney Frank, D-Mass., said he's intent on reviving the bankruptcy cramdown debate, which mortgage industry lobbyists helped to defeat in the Senate this past spring.
On Tuesday – the eve of the Treasury's release of its second Home Affordable Modification Program (HAMP) progress report – the House Financial Services Committee chair explained that, as part of the forthcoming financial system regulatory reform package, he will push for bankruptcy judges to be allowed to rewrite mortgages.
"We are going to be dealing with this in the whole set of regulatory reforms, and I think they'll put this back on the table," Frank said.
Cramdown's return comes at a time when servicers are facing mounting political pressure to modify more loans under the federal HAMP initiative. On Wednesday, the Treasury released data showing that 12% of the eligible 60+ day delinquencies serviced by HAMP participants, or 360,165 mortgages, had started trial modifications through August.
The Treasury has set a goal of 500,000 HAMP modifications by Nov. 1.
"I don't think the banks and the servicers are doing what they should. It does not seem to me they're giving modifications the same priority they give to making money," Frank said. "I understand why that's the case, but if they can't do it voluntarily, bankruptcy becomes important here. There's no question things have not lived up to everybody's hopes."
Questions remain as to whether enacting cramdowns would, in reality, calm the foreclosure waters. Industry groups say cramdowns would increase lending costs for all mortgages, reduce borrower accessibility to Federal Housing Administration and Veterans Affairs programs, and make refinancing more difficult.
The argument that cramdowns would increase lending costs, however, appears ripe for a cost-benefit analysis.
"There is a reasonable concern that the change would result in greater losses for all lenders, particularly unsecured credit card lenders, since there would be more bankruptcies," Mark Zandi, chief economist for Moody's Economy.com wrote last December. "But these costs seem modest compared with the additional benefit of inducing more mortgage loan modifications with principal writedowns."
Advocates for cramdowns say the bankruptcy code, as is, is unfair, as mortgages for primary residences are the only type of debt that cannot be modified by a bankruptcy judge. The reason for this discrepancy goes back to bankruptcy law amendments made in 1978. According to Keith Lundin, a bankruptcy judge in Tennessee's middle district, the recommendation to Congress at the time was for all secured debt to be allowed to be reduced to the value of the debt.
"Except, in the very last minute, the home lending industry convinced a couple members of Congress that they wanted to encourage homeownership and that the only way to encourage homeownership was to make an exception for home mortgage debt in a bankruptcy case," he says.
Another common argument against cramdowns relates to court capacity. Opponents of cramdowns say that if legislation such as that proposed by Frank comes to fruition and becomes law, bankruptcy courts will not be able to handle the case volume.
Lundin responds by pointing to the 1986 farmland debt makeover, which he says presented a similar situation to what homeowners are facing today. At that time, thousands of Midwestern farms were going into default because farmland value had dropped. The bankruptcy code was revised to allow judges to rewrite the mortgages. Court capacity was not a problem in that instance, Lundin stresses.
"In 1987 – in the first full year [that the law was in effect] – there were about 6,000 or 7,000 Chapter 12 cases filed," he says. "Last year, I think there were 300 cases filed. There are just as many farms out there, but what it is, is the smaller farm loans all get reworked outside of bankruptcy."
In the case that judges are allowed to cram down mortgages for primary residences, Lundin envisions a similar tapering off of case volume.
Whether the political environment is more welcoming of cramdowns now than in the spring is anybody's guess.
The Senate Judiciary Committee focused on cramdowns during a hearing in July, with ranking member Sen. Jeff Sessions, R-Ala., refuting calls for reintroducing cramdown legislation.
‘There's no free lunch here,’ he quipped.
Many consumer advocacy groups, however, see cramdown as the necessary ‘stick’ to balance out HAMP's carrots (i.e., servicer incentives). Such groups say homeowners have no options for escalating their complaints of being unfairly denied loan modifications under the federal program.
"I didn't have any leverage or anything of that nature," homeowner Joseph Verdelotti Jr. testified at a subsequent Senate Judiciary subcommittee field hearing in Rhode Island in August.
All the while, Frank remains steadfast in his crusade to see servicers improve loan modification numbers.
"I will say going forward: I am determined to get legislation through that keeps us from being in this bind," he said. "We can't have a situation where you have nobody in charge of being able to modify a mortgage."
