U.S. to force private investors to modify mortgages

A federal program that sold more than 100,000 soured mortgages to private investors at discounted prices is getting a major overhaul.

Changes announced by federal housing officials on Thursday follow months of criticism from legislators and housing advocates that the buyers of the loans have not done enough to keep struggling borrowers in their homes.

The housing officials said that private investment firms buying delinquent mortgages would have to consider reducing the total amount of money owed on a mortgage as part of a potential modification to make a loan more affordable.

The requirement that private buyers — mostly private equity firms and hedge funds — will have to consider things like principal reduction in reworking troubled mortgages represents a significant change in a government program that began in earnest four years ago in the wake of the housing crisis.

Edward L. Golding, principal deputy assistant secretary with the Department of Housing and Urban Development, said the housing agency was deeply committed to protecting struggling homeowners and making certain they have the greatest opportunities to avoid foreclosure and remain in their homes.

Federal officials also said they would make it more difficult for private buyers to temporarily reduce the interest rate on a mortgage only to have it revert to the original terms after five years, a practice used by some private buyers.

The changes in the program are intended to address criticism that the sale of distressed mortgages — while resulting in better loan terms for some borrowers — did not come with specific directions outlining the steps the buyers should take to make the mortgages more affordable.

The revisions address most of the main concerns of housing advocates. But it is not clear how lasting the impact will be, given that they are coming in the last few months of the Obama administration.

Too late for 105,000 mortgages

The new rules will not apply to the more than 105,000 mortgages already sold by HUD in a series of auctions. The first batch of mortgages to be governed by the new rules will not be sold until September.

Still, federal officials expect many more sales of troubled mortgages that were guaranteed by the Federal Housing Administration, a division of HUD, as there are still hundreds of thousands of borrowers who are delinquent on their payments — even though much of the housing market has recovered from the financial crisis.

I expect this type of note sales will be part of the toolkit that will be involved going forward, the HUDs Golding said.

Bought at sharp discount

To date, HUD has auctioned off mortgages to more than a dozen private buyers who have bought the loans at a sharp discount to their face value.

Two of the largest buyers of distressed mortgages have been Lone Star Funds, a private equity firm based in Dallas, and Bayview Asset Management, a firm affiliated with the Blackstone Group, one of the world’s largest private equity firms.

Until now, HUD officials had argued that the loan sale program was the last best chance to keep delinquent borrowers in their homes. The loans sold by the government are ones that were originally written by large banks with insurance guarantees by the federal government and have been delinquent for about two years.

The loans sale have been most successful in reducing the cost to the government of guaranteeing those mortgages against a default because, once the loans are sold, they are no longer insured by the FHA’s mortgage insurance fund.

Private equity missteps

But an article in The New York Times on Lone Star’s handling of a pool of 17,000 delinquent mortgages revealed that the private equity firm and its wholly owned mortgage servicing firm had been aggressive in pushing thousands of borrowers toward foreclosure. Lone Star’s mortgage firm, Caliber Home Loans, has tended to offer deals that allow little room for negotiation and do not include principal reduction.

The Times also found that one type of modification offered by Caliber was a five-year deal during which a borrower made either reduced monthly payments or simply paid interest on the loan. But those modifications revert to their original payment terms in the sixth year, sometimes with any deferred unpaid principal or unpaid interest added to the back end of the loan.

Those types of modifications are likely to be prohibited under the new rules that HUD says are intended to provide struggling borrowers with payment shock protection.

Smaller pools of mortgages

Other new measures announced by housing officials would make it easier for nonprofit and community groups to buy loans by creating smaller pools of mortgages that are cheaper to bid on and simplify the process for local governments to buy distressed loans.

HUD is setting a goal of selling 10 percent of all mortgages to either nonprofit organizations or local government agencies.

Buyers also will be barred from abandoning hard-to-sell homes in poorer neighborhoods after foreclosing on the mortgages.

Some of the changes in the loan sale program were put together after meetings in the winter and spring with housing advocates.

We listened and tried to be responsive, Golding said. I think we did good work.

He noted that a year ago, HUD said private buyers could not complete a foreclose on a mortgage for at least 12 months after acquiring the loan.

Critical report

One organization that participated in those recent talks with HUD officials, the Center for American Progress, released a report on Tuesday that concluded that federal officials had made a mistake in assuming that economic incentives alone were enough to encourage private buyers of mortgages to modify as many loans as possible.

The group’s report said that for private investors, the primary goal is often to deliver to investors the highest profit as quickly as possible. And the report from the center, a politically left-leaning organization, said the government needed to impose more stringent requirements on buyers to get the result it wanted.

It is risky public policy to rely too heavily on assumptions about market forces to protect homeowners, the center said.

Sarah Edelman, the center’s director of housing policy and one of the report’s authors, said the changes announced by HUD were significant improvements in the loan sale program.

The policies announced today are a promising step toward more responsible loan auctions, she said.

It is hard to ignore the political overtones of the changes being announced by HUD, given that Julián Castro, the HUD secretary, is thought to be a potential vice-presidential running mate for Hillary Clinton, who is seeking the Democratic presidential nomination.

In recent months, several liberal activist groups staged rallies, calling on HUD to move more quickly to enact changes to the loan sale program. A number of them started a website and petition drive to put pressure on Castro.

The changes to the program were announced in a news release by Golding, who oversees the FHA, and not Castro.



Musician segues into mortgages

In 1986, after opening for Foghat and REO Speedwagon as part of The Hounds, having a contract with Columbia Records and appearing on American Bandstand alongside Hunter, Cuttone gave up music for mortgages.

I had two kids at the time and hated Los Angeles. As bass player, I had handled most of the business for the band, so when I heard about a job here, I borrowed my dads suit and tucked an 8-inch braid into the back of my shirt and went for an interview, Cuttone said.

He was hired as a loan officer by Tom Rank, founder of todays Lisle-based American Fidelity Mortgage. Rank was a Realtor with Century 21 in Naperville who had seen a need for a mortgage company that could serve the real estate community by offering a variety of programs and products from a number of different lenders.

This was the original mortgage broker concept, Cuttone said. A broker could take a loan and place it with a number of different lenders. They took the idea from insurance brokers who sold policies for a variety of companies.

Rank had started his Naperville-based company, which was originally called Century 21 Alumni Mortgage, in 1981. Cuttone went to work for Rank in 1986.

Two years later the firm became a true mortgage banking firm because, by then, it had its own money to fund the loans and just sold the servicing to other companies. In this way, Cuttone said, they were able to offer their customers better rates.

Over the years the company changed names and locations two more times, becoming Alumni Mortgage in 1995 and American Fidelity Mortgage a year after that. Wheaton became its home base for several years and then in 2010 the company moved to its current headquarters in Lisle.

During this time, Cuttone capitalized on his sales personality and became the firms top producer, simultaneously progressing up the ladder to manager, then vice president, then president. He purchased the company from Rank in 2006.

Today American Fidelity Mortgage is a direct endorsed underwriter for FHA loans and an automatic underwriter for VA loans. This means the company has the ability to approve those types of loans in-house.

But ours is still a small, local company by design. We have 48 employees and probably write about 1,200 loans per year, mainly in Illinois. But we also do a few in Indiana and Wisconsin. Our average volume is $500 million in loans per year, Cuttone said.

American Fidelity has also become known for writing reverse mortgages, which are designed for senior citizens, becoming one of the Top 100 endorsers of these mortgages in the country.

I have a healthy skepticism of this type of loan and dont believe they are right for everyone. We didnt really start selling them heavily until I hired Rich Glover, who is a member of the National Reverse Mortgage Lenders Association and has a real passion for these loans. Members of his team are the only ones who handle them for us because it takes a certain mindset to do them and I dont want to ramrod people into them, Cuttone said.

In 2010, during the recession, he invested his time and money in obtaining a cloud-based loan-origination system so American Fidelity could better compete with the big companies. The system allows secure, online preapproval applications and also enables its loan officers to work securely from their laptops off-site.

Then, at the end of 2014, Cuttone chose to trim back the firm. American Fidelity Mortgage had grown to 14 branches and Cuttone felt it had become too big and impersonal with too many layers.

When you own a company, you want to make sure your people are presenting the company in a way that is professional, honest and caring and in this business, you want to make sure that the real estate agents have confidence in you. To earn that confidence, I had to work harder than everyone else and I didnt want to lose that.

I wanted to make sure that we maintained our quality because ours is a referral business and we need to make sure our customers are so satisfied that they will come back for their next loan, he explained.

So Cuttone chose to make American Fidelity Mortgage leaner and more controllable. It became a boutique mortgage banker that could embrace and lead its customers through the complicated mortgage process and offer free pre-approvals for people seeking to buy a new home. He also hired Frank Zak from Chase to run the day-to-day operations.

Cuttone went back on the street to meet the customers and write loans, meeting clients in real estate offices or wherever is most convenient.

In the future, I see American Fidelity Mortgage continuing to fill the void between the large and medium companies. Since we are locally owned and we do business where we live, go to church and where our children went to school, people know us and feel comfortable doing business with us, he said.

This is a family business. My son, daughter, wife, sister, brother-in-law and niece all work here and we also have lots of friends working for us. They know they have to do a great job or Thanksgiving dinner will be miserable, he quipped.

American Fidelity Mortgage, which is celebrating its 35th anniversary this year, is the fifth oldest licensed mortgage banking company in Illinois. For more information, call (630) 681-1010.

Risk of Default is Rising for New Mortgages

Risk of default among mortgage borrowers is on the rise, especially on loans being written right now, according to data from University Financial Associates.

UFA's latest default risk index for Q2, which measures the risk of default on newly originated prime and nonprime mortgages, ended at 112, up from Q1's 109.

"Under current economic conditions, investors and lenders should expect defaults on loans currently being originated to be 12 percent higher than the average of similar loans originated in the 1990s," the report stated.

That comparison is significant when looking at UFA's graph of default risk since 1990, and seeing that the trends of the past four years closely resemble those between 1990 and 1994.

The takeaway for investors and lenders, according to Dennis Capozza, founding principal at UFA, is that there is a continuing upward trend in the risk of default for both prime and nonprime mortgage loans. While low unemployment rates are benefiting the mortgage market and low interest rates are fueling a buying spree, the lending risks in newly originated mortgages are increasing along with the maturity of the economic cycle.

"Mortgage risks are continuing to increase as this economic cycle matures," Capozza said. "Consumer loan growth is at a seven-year high, and low mortgage interest rates are fueling a buying spree. The Federal Reserve is once again threatening to move interest rates higher."

Capozza said he expects the Fed will move cautiously in an election year, but added "Nevertheless, any increase in interest rates will raise the life-of-loan default risks for new originations."

A number of factors affect the expected defaults on a constant-quality loan, UFA stated. Most important are worsening economic conditions. A recession causes an erosion of both borrower and collateral performance.

"Borrowers are more likely to be subjected to a financial shock, such as unemployment, and if shocked, will be less able to withstand the shock. Fed easing of interest rates has the opposite effect," the report stated.

Reverse Mortgages Aren't For Everyone

It sounds almost too good to be true, and a reverse mortgage can indeed be a lifesaver for people with lots of home equity but not much else to live on. Yet reverse mortgages have never really taken off. Most years, only 2 to 3 percent of eligible homeowners get them - and with outstanding loan balances of $140 billion in 2012, reverse mortgages represent a trifling share of the $14 trillion in outstanding mortgage debt in the US

Reforms come to reverse mortgages

Horror stories about reverse mortgages have long led some consumer advocates and financial planners to consider them too risky, a loan of last resort. In addition to problems when a surviving spouse isnt on the loan, these compounding-interest loans can be expensive. And seniors who cant handle taxes, insurance, and home upkeep risk defaulting on the loan and losing their house.

But over the past three years, new government regulations aimed at protecting older borrowers and shoring up the government-backed loan program have gone into effect, according to Consumer Reports.