As reported last week, the FDIC was rumored to be working toward helping banks solve the growing problem of foreclosures by enabling banks to forgive principal on loans for homes where values have dropped. About 12 million homes are underwater—that is, the mortgages on about 12 million homes are more than the values of these homes. And with the no-recourse policy that mortgage contracts have, the bank can claim the home but not any other part of a mortgagees assets.
So people have just walked away in droves when they feel their home investment has gone bad because of dropping values. When this happens, foreclosures rise, and home prices drop quicker. Details on the FDIC/Treasury plan are slim but CNBC reports that the government would provide guarantees for up to $600b in mortgages which would equate to about 3 million loans. Only addresses 25% of the problem, but most would agree: anything would help. Also, this statistic makes sense as underwater homes with a first plus a second mortgage are extremely difficult to work out, and seem more likely to foreclose.
The “guarantees” would mean that the government would provide help and incentives to lenders who agree to “work out” home loans not by just dropping or extending the rates, but by reducing the principal balances to a level proportional with the value of the home. This might happen for about five years, and in some other talked-about versions of this plan, the lenders who wrote-down the principal also might get a share of future appreciation for that period. Story is developing.