U.S. banking regulators Tuesday urged mortgage servicers to be proactive and contact borrowers at risk of default to help them avoid foreclosure and keep their homes.
The regulators, headed by the Federal Reserve, said mortgage servicers should try to help troubled borrowers who face drastically higher payments refinance into fixed-rate loans and take other steps to make the mortgages sustainable.
"We encourage servicers of securitized mortgages to reach out to financially stressed homeowners," Fed Gov. Randall Kroszner said in a statement. "Keeping families in their homes is matter of great importance to the Federal Reserve."
Interest rates on about 2 million subprime mortgages -- representing about 14 percent of that segment of the home loan market -- are expected to re-price to higher interest rates over the next two years. That could increase the risk that borrowers may not be able meet their higher monthly payments.
Increased foreclosures on subprime loans already have sparked massive turmoil in financial markets as investors have shunned securities backed by riskier debt, leading to a broad tightening of credit that could threaten economic growth.
The statement from federal and state banking regulators comes on the heels of a plan announced by President Bush on Friday to help more financially distressed homeowners refinance into fixed-rate loans insured by the Federal Housing Administration. Bush also urged lenders to help keep at-risk borrowers in their homes.
Renegotiating loan terms can be tricky in the U.S. mortgage market because most home loans are securitized and sold to investors, so the originating lender has no stake in the credit. Often, the main point of contact for the borrower is the servicer, which collects monthly payments and holds funds for insurance and property taxes in escrow.
Mitigation Less Costly Than Default
The regulators said many mortgage securitization contracts allow servicers to identify borrowers at heightened risk of delinquency or default, such as those with impending interest rate resets, and contact them to assess their ability to repay.
"Where appropriate, servicers are encouraged to apply loss-mitigation techniques that result in mortgage obligations that the borrower can meet in a sustained manner over the long term," they said.
The regulators said loss mitigation techniques that preserve home ownership are generally less costly than foreclosure, particularly when applied before default.
They said prudent loss mitigation strategies may include loan modifications; deferral of payments; extension of loan maturities; conversion of adjustable rate mortgages into fixed-rate mortgages or fully indexed, fully amortizing adjustable rate mortgages; capitalization of delinquent amounts, or any combination of these.
As an example, they said servicers have been converting hybrid adjustable-rate mortgages into fixed-rate loans.
The Federal Deposit Insurance Corp., one of the other federal bank regulators that made the joint statement, has convened several meetings in recent months to encourage the mortgage industry to make allowances for struggling borrowers.
Although mortgages are often tied up in complicated investment instruments, FDIC Chairman Sheila Bair said there is often room to help troubled borrowers save their homes.
"Our work with leading accountants, attorneys, trade groups and market participants has confirmed that servicers for securitized mortgages have the authority under the accounting and tax rules ... to proactively help deserving borrowers," she said in a statement.
On Wednesday, lawmakers are to grill several federal regulators about volatile trade in mortgages that has shaken financial markets worldwide in recent weeks.
Bair and Robert Steel, the Treasury Department's under secretary of domestic finance, are two of the panelists to appear before the House of Representatives Financial Services Committee chaired by Rep. Barney Frank, a Massachusetts Democrat.