3 Issues with the New Program for Unemployed Homeowners

The new program is a good idea, but it has a couple of problems.

I was out Friday, so I haven't had a chance to write about the Obama administration's new foreclosure prevention efforts (.pdf) announced that day. I am reviewing the details now and have a few observations. As you might expect there are some good ideas and some bad ideas. The temporary assistance for unemployed homeowners is a curious one. It's well-intentioned, but I worry about three problems.

In case you don't know about this new aspect of the foreclosure prevention plan, it seeks to allow homeowners to pay less for three to six months if unemployed. It makes sense to try to prevent foreclosure for the unemployed, since they're the major driver for home defaults now, as the subprime problem is really one of the past.

No Carrot

Most of the foreclosure prevention efforts involve either a carrot or stick. As far as I can see, this aspect involves no carrot -- just a stick. Servicers and lenders don't have any incentive for deferring the payments of unemployed homeowners. But they are required, if participating in HAMP, to make these deferrals.

Treasury has told me in the past that servicers will be fined if they disobey the rules. But I have to imagine that servicers and lenders won't be too eager to do these deferrals. And if HAMP has taught us anything, it's how little progress is made when servicers and lenders aren't eager to do something. So the Treasury had better have a very strong enforcement mechanism in place if it expects this program to work.

Moral Hazard

In order to qualify for the program, you must be delinquent on your mortgage. So if you're unemployed, but can pay your mortgage due to your unemployment benefits and savings, your logical response would be to stop paying. You could pay as little as nothing for up to six months. Why wouldn't you want to pay less while unemployed? But, it does seem a little odd that a program would encourage those who can pay to stop doing so.

What Happens After Deferral?

This is probably my biggest worry: what happens if the borrower doesn't find employment by the end of the deferral and still can't pay the mortgage? I suspect this will be a very common problem, given that unemployment is expected to remain high throughout 2010 -- which has another nine months (the deferral can only be up to six months). According to the fact sheet, the borrower can apply for a HAMP modification at that time. Yet, if the homeowner fails the net present value test, then a modification will be denied. The borrower can then participate in other HAMP initiatives, like the short-sale program. But the foreclosure would ultimately have just have been delayed, not prevented.

Perhaps the goal here is to just prevent foreclosure for those Americans who are only unemployed for a short period of time. If that's the case, however, I don't believe it will manage to prevent many foreclosures caused by unemployment, since most unemployed Americans will likely be jobless for more than three to six months.