Banks Shocking Borrowers with Mortgage Reductions

Banks altering risky loans to prevent more foreclosures

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Big banks are cutting option ARM loans in half for borrowers deemed at special risk, according to Sunday's New York Times. JP Morgan Chase and Bank of America are approaching borrowers with pay option adjustable rate mortgages (ARMs) and cutting their debt or modifying the terms of the loan, if the borrower is deemed to be at special risk. The focus of the story is a woman in Miami who was sent a letter from JP Morgan Chase last year offering to cut her $300,000 loan in half. Unsurprisingly, she was confused but quickly accepted the bank's favor.

A spokesman for Bank of America contacted by The Times said they were proactively contacting customers with option ARM loans and offering to alter their loans to safer alternatives to help prevent from defaulting. JPMorgan Chase declined to comment for the story. Option ARM loans were popular during the last dark days of the housing boom. They offered to delay principal payments and some interest payments for several years. Anything unpaid would be added to the body of the loan. Option ARM loans were thought to be some of the worst on the market after the economy crashed. A Business Week cover from 2006 called option ARM loans "Nightmare Mortgages." Borrowers worst fears went unrealized when interest rates were pushed down and fewer ARM loans defaulted than expected.

As The Times points out, Chase, Bank of America and other banks are meeting with the Obama Administration to discuss foreclosures. Deciding who deserves help and who deserves debt forgiveness is one of the bigger points of contention. Giasmos's loan was not defaulting, thought her investment was "underwater." The value of the condominium she bought with the loan plummeted, leaving her with more debt than the condo was even worth. After the debt reduction from JPMorgan Chase, she was able to sell the condo and make a small profit.

Economist Sam Khater said, "[Being underwater] is a huge problem. Reducing negative equity would spark a housing recovery."

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