As thousands of homes are forfeited to banks each year, I continue to receive calls from constituents who cannot understand why financial institutions seem to prefer foreclosures and short sales on homes rather than to work with homeowners on loan modifications. Wouldn't banks stem their losses by negotiating refinance agreements with the homeowners?
Unfortunately, this is often not the case. Illustrating the law of unintended consequences, policies enacted by federal organizations that were meant to supply financial aid to lenders when they lost money to foreclosures have actually resulted in subsidizing and even incentivizing foreclosures. Reminiscent of the federal government's bank bailouts, the policies use taxpayer dollars.
A brief background on how we got into the current economic mess. First, the federal government demanded that housing loans be made more accessible, even to unqualified borrowers. Financial institutions such as thrift and commercial banks were required to lower their standards for qualifying home buyers. Next, as the housing boom continued and home prices rose astronomically, lenders got creative. Interest-only loans, negative amortization loans and jumbo loans requiring little or no down payment by the borrower became the norm. Finally, borrowers themselves contributed to the housing bust by participating in "liar loans" (with financial institutions fully complicit), where borrowers intentionally misrepresented income, and rather than verify the applicant's income or employment history, lenders simply took the applicant's word for it.