WASHINGTON, D.C. — As a homeowner rescue bill stalls in the Senate, sparking debate on both sides of the aisle, Edwina Bruce of Minneapolis and other Minnesotans facing foreclosure hope that a controversial provision remains in the legislation and helps them hang on to their homes.
The provision — known as a “cramdown” — was approved by the House last week and would, for the first time, allow courts to readjust primary home mortgages in Chapter 13 bankruptcies to help people pay off their houses.
“It has been scary and hard. It has been stressful just not knowing if you are going to have a place to live,” said Bruce, who has two teenage sons and may lose her home if she cannot figure out a way to pay her mortgage. “If this passed, I could see a lot of people benefiting from it.”
President Obama and most Democrats support the bankruptcy provision — estimated to help at least one million Americans — as a last resort option for homeowners facing foreclosure. The move, however, has prompted an outcry from House Republicans, the banking industry and some bankruptcy experts who argue it rewards those who made bad decisions and could potentially compromise the historic strength of primary-mortgage contracts, pushing mortgage lenders to reduce lending and increase interest rates.
“There are not a lot of heroes in this story,” said Mark Scarberry, a Pepperdine University professor of law who specializes in bankruptcy.
“[But] the point is that we as a society have thought that the property rights were important, especially the rights of the home mortgage lenders, because we have wanted to encourage home mortgage lending. It would be unfortunate if, as a result, we made mortgages more expensive and less available.”
But, what the banks see as a “cramdown,” Bruce views as a much-needed lifeline that couldn’t come a moment too soon.
The 38-year-old bought her home on the North Side of Minneapolis about 14 years ago. In 2006, she and her husband refinanced to invest in his construction company. The new mortgage had an adjustable interest rate that remained flat for two years and then increased after that. At the time, Bruce, who has worked as a payroll manager for a local nonprofit for over a decade, knew that with both incomes she and her husband could handle the rate hike.
But in 2007 Bruce and her husband divorced, leaving Bruce with only her income to pay off the new mortgage. Since that time, Bruce has been working with her mortgage provider — a branch of Wells Fargo — to readjust her monthly mortgage payments after she fell behind.
The payment plans, however, have still been too expensive. Instead of providing a workable solution, the process, which has included mounting legal fees, has left Bruce further in debt.
‘I love my home’
Now, as Bruce teeters on the edge of losing her home and filing for bankruptcy, she is watching and waiting to see what comes out of Congress.
“I love my home. I have been here for 14, going on 15 years. I consider it my home,” Bruce said. “If I had it to do over again, I wouldn’t refinance. But, at the time, I was banking on still being married… it is hard to get out of a situation like this with no help.”
As it stands now, the legislation that the House passed last week would allow bankruptcy judges to reduce mortgage balances, cut interest rates and lengthen payment terms in an effort to keep people in their homes.
The bill would also allow mortgage lenders to collect a portion of the profit if a home sold within five years of modification.
From his perspective in Minnesota, Thomas Streitz, housing director for Minneapolis, thinks that the bankruptcy measure looks like a pretty decent plan — as long it is implemented with restraint.
“Bankruptcy courts exist to help people…who are in over their heads,” said Streitz. “At the same time, obviously, it cannot be a wide open invitation for anyone who is under water.”
Minneapolis is projecting about 3,000 foreclosures in 2009, which is about double the amount that the city saw in 2006, according to Streitz.
“The first wave of foreclosures really hit the city hard, like a tsunami,” said Jill Alverson, Hennepin county auditor/treasurer.
It is now rippling out into the suburbs and ex-urbs, according to Alverson. In 2008, there were 7,348 foreclosures in Hennepin County.
Compared to other states, Minnesota has fared pretty well in terms of numbers of delinquent loans.
According to a state-by-state breakdown by the Mortgage Bankers Association, 6 percent of mortgage loans in Minnesota were delinquent as of December 2008. This compares to about 9 percent in California, about 10 percent in Louisiana, and about 13 percent in Mississippi.
Still, that 6 percent in Minnesota equaled about 54,300 loans — enough to be worried about, according to local officials.
“What we have seen to date has a lot to do with bad mortgages,” said Alverson. “Now, we are looking at more historical reasons for why people foreclose, which is losing their jobs and income.”
Changes to legislation
The bankruptcy measure was intended to match Obama’s homeowner rescue initiatives, which have called for government-subsidized loan modifications and refinancing.
A similar measure failed in the Senate last year, amid unanimous Republican dissent and some Democratic opposition. The Senate was supposed to have the bill go to the floor as early as this week. But it is now tied up in negotiations as the Democratic leadership searches for the necessary 60 votes. Concerns over the “cramdown” piece of the legislation have been raised from moderates on both sides of the aisle.
During debate in the House last week, stricter provisions were added to appease those in the fiscally conservative Blue Dog Democrat coalition, and lawmakers in the New Democrat coalition, who felt that the bill should ensure that mortgage modification would only be used for qualified individuals, and as a last resort.
Alterations included language that requires borrowers to seek loan changes from their mortgage companies before filing for bankruptcy, increases the share that a lender would get if the home sold within five years, and limits the legislation to existing mortgages.
“Part of my justification [for voting for the measure] is that at least the money won’t go to the big Wall Street banks, it will go to helping people,” said Rep. Collin Peterson, D-Minn.
In 2008, about 354,000 cases were filed for Chapter 13 bankruptcy, a 14 percent increase over the number filed in 2007, according to the Congressional Budget Office.
Rep. Stephanie Herseth Sandlin, D-S.D., said that she voted for the legislation because it “will help stabilize the housing economy by minimizing foreclosure.”
“This bill will encourage lenders and borrowers to participate in voluntary loan modification programs and includes compromise provisions that will protect against abuse, by ensuring that judicial modifications of mortgages are used only as a last resort,” said Herseth Sandlin.
(In South Dakota, only about 4 percent of the mortgage loans were past due as of December 2008, according to the Mortgage Bankers Association.)
But Minnesota’s House Republicans, who all voted against the legislation, maintained that the “cramdown” provision should be removed, even after it had been narrowed during negotiations.
In a statement, Rep. Michele Bachmann, R-Minn., said that the “cramdown rewards poor decisions made by a small number of individuals and lenders, while adding uncertainty to the market and increasing mortgage costs for all Americans… [by adding] substantial risk that a homeowner might choose to file for bankruptcy to shave down the principal they owe.”
Before revisions to the legislation, the Congressional Budget Office predicted that the bill might encourage more bankruptcy filings, with at least one million borrowers likely to benefit financially from filing Chapter 13 bankruptcy under the bill. (PDF)
Is it fair to everyone?
Rick Odenthal, the chief executive officer of the Central Minnesota Federal Credit Union, said that he worries the legislation will open the door to more abuses of the bankruptcy system.
“How do you make something that is fair to everybody?” said Odenthal. “Ninety percent of the population out there is saying, ‘Why don’t you lower my mortgage, I’m paying for it.'”
Of the credit union’s 34,000 members, Odenthal said that he has had only two foreclosures.
“The whole thing for us is that we have been working with people,” said Odenthal. “I don’t think we need the legislation.”
But, unlike Odenthal, many mortgage lenders have refused to work with those facing foreclosure at the risk of opening themselves up to lawsuits, according to lawmakers in support of the legislation.
Under the homeowner rescue bill, if a lender does not offer a qualified loan modification, a bankruptcy judge would then have the power to do that. It would also provide some legal coverage to the mortgage servicers.
Those who support the bill say the “cramdown” provision is necessary because the foreclosure crisis reaches far beyond the problems that individual homeowners like Bruce are facing.
“This is not an individual problem, this is a collective problem,” said bankruptcy expert Jason Kilborn, who is an associate professor at the John Marshall Law School in Chicago. “The ramifications of not acting are not that one person has to lie in a bed that he has made. The ramifications are that entire communities go away and that has effects on those communities and countries.”
Kilborn also refuted the notion that interest rates would rise remarkably if the measure passed. While interest rates could rise modestly, Kilborn argued that they should not explode upwards as some seem to be suggesting. In the end, the large and competitive nature of the marketplace should put the pressure on lowering interest rates, according to Kilborn.
“If the banks decided to jack up interest rates, they are either being totally irrational or they are being greedy,” said Kilborn. “At the end of the day, this is not all that different from a variety of things that we have done in the past… To suggest that this would bring us into a whole new era that will change the rules of the game of home mortgage financing is a ridiculous, sky-is-falling [rationale].”
At the same time, some who support the provision wonder if it will really be that effective in keeping people in their homes.
Cheryl Peterson, a program manager for the Twin Cities Habitat for Humanity mortgage foreclosure prevention program, has been working with Bruce for about 19 months and said that she thinks the measure has the potential to be beneficial to some people, but may not be a viable option for many others.
“There is an extremely high default rate on Chapter 13 plans,” said Peterson. “Just because there is a reduction to the principal balance of the mortgage does not mean that the homeowner will be able to afford it.”
Cynthia Dizikes covers Minnesota’s congressional delegation and reports on issues and developments in Washington, D.C. She can be reached at cdizikes[at]minnpost[dot]com.