Tuesday, November 18, 2008

What Should Happen to "Underwater" Mortgages?

Barry Ritholtz offers a plan at The Big Picture:

My...suggestion is to develop a plan that recognizes this simple truism: People paid too much for houses, and banks lent too much against value that simply isn’t there. The LTV needs to be adjusted to reflect this simple reality.

That’s why carving out a new realistic mortgage relative to home values, plus a 10 year balloon payment for some of the balance, can work.

•It shares the pain of bad decision making of both the buyer and the lender;

• It create an incentive for home owers (not a typo) to stay in their homes;

• It gives the banks an immediate write down of the balloon, and a possible recovery down the road;

• It drops the price of homes back towards something realistic.

Consider a $500k mortgage on a home purchased for $550k that is now worth $400k. I would have the parties negotiate something like the following: A new mortgage for $350k plus a $50k 10 year balloon. The $350k mortgage is affordable, the $50k balloon is interest free, tax free and can be folded into the main mortgage 10 years hence.

You can play with the numbers, for example, doing a $375k and a $50k balloon. The bottom line is both parties have to have an incentive to take some o the hit, and prevent an even worse outcome.

The post is here. It's in response to a WSJ proposal (which is inane), which you can read here.
Read Barry Ritholtz's entire proposal. To read about the Fannie/Freddie Mortgage Mods, go here. To read about the FDIC proposal, go here.


Anonymous said...

this plan makes much more sense than either the FDIC or FHFA plans which seem ripe for abuse by people who "let" themselves default as a way to get loan modifications

David Lee said...

This is a very good plan which I never think. I think we need to make it success which will solve a lot of problem.