Although the government's efforts to stop foreclosures have had lackluster results, another new program hopes to do better. The Department of Housing and Urban Development's new Emergency Homeowners Loan Program offers interest-free loans of up to $50,000 that can be forgiven entirely in certain circumstances. Is this the principal reduction effort mortgage modification advocates have been waiting for?

AnnaMaria Andriotis from SmartMoney reports:

Rolled out by HUD and the nonprofit housing advocacy group NeighborWorks America, the program is making loans with far better terms than anything on offer at a local bank. The loans are interest-free. Payments go directly to the lender for a portion of the borrower's monthly mortgage, including missed payments or past due charges. And when the assistance period -- which runs for up to two years -- ends, 20% of the loan is forgiven with each passing year. In other words, for qualified borrowers who stay in their home for at least five years after the assistance period and who don't fall behind on their mortgage again, this money doesn't have to be paid back.

One common complaint about mortgage modification programs is that distressed homeowners will just default later, rather sooner. But this effort appears function much like a principal reduction. If the median home sales price of $166,500 is taken into consideration, then $50,000 can go a long way in getting underwater mortgages back on track. As a result, re-defaults should be relatively low.

The five-year plan for principal forgiveness is both smart and dangerous. On one hand, providing a time period over which the loan will slowly disappear provides a big incentive for homeowners to keep paying. On the other hand, forcing these people to remain in their homes for at least five years harms labor mobility, which could be particularly harmful in the context of geographically concentrated high unemployment.

Of course, another obvious criticism will almost certainly be mumbled by homeowners who don't need the program and continue to pay their mortgages: why are these borrowers getting free money when I'm stuck paying my underwater loan?

Read the full story at Yahoo! Finance.

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