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Foreclosure crisis going to get worse before it gets better
Lawmakers stepping up with regulation, education
By Anna Marie Kukec | Daily Herald Staff
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Published: 11/28/2007 12:52 AM

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Government officials and homeowners are hunkering down. If the foreclosure crisis is bad now, the increasing trend of court filings indicates the problem will become much worse, experts say.

The storm has been brewing for at least the last five years, and the next two years could be critical. No one can predict how deep the crisis will go, said Michael Seng, a John Marshall Law School professor and executive director of the school's Fair Housing Program.

"We're just seeing the tip of the iceberg now," Seng said.

Already this year, the numbers of foreclosures in most of the Northwest and West suburbs have met or exceeded last year's totals. Local academics and researchers have been keeping tallies and raising red flags, with some hoping government officials will take action.

The Dream Foreclosed

President Bush and other elected leaders have been scrambling to start new programs and get new laws on the books to help financially troubled families keep their homes, National Economic Council Director and Bush's economic adviser, Allan B. Hubbard, said during an interview Tuesday.

"The economy still remains strong because we're still adding jobs. Wages and compensation are up in the last 12 months, and other statistics show positive movement with productivity. Inflation also is under control," said Hubbard. "Still, there's no question on the impact the housing and credit industries are having. But President Bush is very focused on the economy."

Yet consumers, government and business leaders are learning hard lessons as they gear up to meet nose-to-nose with the foreclosure crisis.

"We really need to return to sound underwriting criteria," said Geoff Smith, research director for Chicago-based Woodstock Institute, which has been tracking local foreclosures.

Federal help

With pressure rising from constituents, lawmakers have been taking action.

U.S. congressmen and senators have been focusing on proposals that would target the qualifications of loan originators, increase Federal Housing Administration loan caps, and, at the very least, provide educational programs to help consumers understand the financial documents they're signing. FHA provides mortgage insurance on loans made by FHA-approved lenders nationwide. It also the largest insurer of mortgages in the world with about 34 million properties since its inception in 1934.

President Bush and his administration have been preparing programs, introducing legislation and outlining initiatives, U.S. Treasury Secretary Henry Paulson said in an interview during a stop at his Barrington Hills home.

Paulson has been talking with mortgage companies, counselors and others nationwide in recent months.

"What I've been leaving those meetings with is that people who are facing problems don't reach out early enough. They don't know who to talk with," Paulson said.

Paulson said the FHA Modernization legislation will help expand lending products intended to help homeowners stay in their homes. It would lower down-payment requirements, allow the FHA to insure bigger loans and give the FHA more pricing flexibility. These proposed reforms would help the FHA reach more families that need help -- first-time home buyers, minorities and those with low to moderate incomes -- and offer more options to homeowners looking to refinance. This is still a proposal and not yet passed by Congress.

The federal government also has a program called FHASecure, a refinancing option for homeowners who were making timely mortgage payments before their adjustable rate mortgages reset with a higher interest rate and who now are in default.

Also, the FHA will charge mortgage insurance premiums based on the individual risk of each loan, using traditional underwriting standards, so it can expand access and help more families. This is a new program headed by the Department of Housing and Urban Development.

In addition, the Mortgage Forgiveness Debt Relief Act prevents forgiven mortgage debts, which borrowers have worked out with their lenders, from being considered as gross income for tax purposes. Temporary relief could be provided for about three years, Paulson said.

After three years, such debt relief would be considered income. Currently, forgiven mortgage debt is counted as income for tax purposes. The proposal would provide a temporary exclusion so that forgiven debt would not to be counted as income, aiding homeowners who are restructuring their mortgages. After the exclusion sunsets, forgiven mortgage debt would go back to being counted as income. The House has passed a similar proposal. Senate action is pending.

"We have millions of Americans in homes with low-cost credit and mortgages," Paulson said. "If they have a problem, they need to talk with their lender and do a work-out plan with that mortgage company."

In addition, Paulson and U.S. Housing and Urban Development Secretary Alphonso Jackson pushed for the creation of the Hope Now Alliance, a new national organization of mortgage counselors, servicers and investors who aim to help struggling homeowners.

This month, Hope Now began a direct mail campaign with about 300,000 letters to struggling homeowners. More letters are expected to be sent soon. The letters provide information on where to go for help on refinancing or modifying a mortgage.

Locally, Democratic U.S. Rep. Melissa Bean says she is focusing on foreclosure issues to help families entangled in subprime loans in her 8th Congressional District, which includes parts of Cook, McHenry and Lake counties.

She often hears affected constituents say they didn't understand the documents they had signed or what impact they would have on keeping their homes.

"We have to reinforce that old rule of buyer beware," Bean said. "You should always be reading what you're agreeing to before you sign and know you can pay that mortgage in the long term."

Bean has been supporting many of the mortgage reform bills and has been stressing educational programs, too.

The House on Nov. 15 passed the Mortgage Reform and Anti-Predatory Lending Act of 2007, also known as HR3915. The legislation calls for mortgage originators to inform homebuyers if a loan includes negative amortization and requires any first-time subprime borrower who chooses such a loan to receive credit counseling. The legislation helps to educate homeowners about negative amortization loans, which can increase the outstanding principal balance and reduce a borrower's equity in the home. The bill is awaiting action from the Senate.

State action

Debbie Hagen, chief of the Illinois Attorney General's Consumer Protection Division, said sometimes those financially troubled homeowners are taken advantage of and they've been cracking down on those situations.

Attorney General Lisa Madigan's office has sued several mortgage rescue companies to stop what the agency has called deceptive practices. Illinois also is one of four states aiming to curb the mortgage rescue business. There have been cases in which homeowners unknowingly agree to sell their home to a private business, which then leases it back to them. The state is aiming to make the so-called rescuer in these cases pay back 82 percent of the equity of the home to the homeowner.

Madigan and other state officials also have ushered in bills that became new laws, such as SB1167, which goes into effect in June. It says loans must be underwritten on the ability of the person to repay it, and it enhances homeowners' foreclosure rights and tightens controls on brokers and lenders.

"Many people believe the broker is going to get them the best rate," Hagen said. "But that's not always what has happened."

Another bill aims to allow judges to modify the terms of a loan to help homeowners stay in their homes. Currently, judges don't have that flexibility, Hagen said.

The governor also has established the Mortgage Fraud Task Force, an inter-governmental effort designed to target fraud and help consumers. One of those participating agencies, the Illinois Department of Financial and Professional Regulation, has been targeting loan originators, the people who write up loans. They now must take tests to qualify for a license.

The state began cracking down in 2003 on about 25,000 originators. Since then, about 15,000 passed the test and are licensed, agency Secretary Dean Martinez said.

"Many of those other people shouldn't have been loan originators because they didn't have the skills or possibly the background to be originators," he said.

Another lesson learned is that leading up to today's increasing numbers of foreclosures, mortgage lending standards eroded. Changes in the industry are happening, said the Woodstock Institute's Smith.

Too many lenders took a borrower's word on what he or she was earning or on available finances without verifying the information.

"They need to know if people have the ability to repay the loan, especially the adjustable rate subprime loans," Smith said. "Lenders often didn't take into account what happens when mortgages would adjust."

Looking ahead

The U.S. Conference of Mayors on Tuesday released a dire report on the ripple effect of the foreclosure crisis and how it will make many cities scramble to make up for the lost taxes and other income.

The Chicago-Naperville-Joliet region ranks 5th among metropolitan areas nationwide that could lose the largest amount of Gross Metropolitan Product in 2008. The Chicago metro region shows a 2.23 percent GMP growth in 2008, or a 0.56 percent loss. That amounts to about $3.9 billion in losses stemming from the foreclosure crisis, the report said.

In Illinois, the fiscal impact of the mortgage crisis shows a potential loss of $329 million in property tax revenue and a loss of $22 million in sales taxes, especially as families retrench during such tough times, the report said.

In addition, the ever rising foreclosures continue to send shock waves through the mortgage industry itself.

There have been about 100,000 job cuts nationwide in the financial field from January through mid-October, according to Chicago-based outplacement consultant Challenger Gray & Christmas Inc.

Still, many experts say it's too soon to predict how bad the situation will become.

Judges who handle foreclosure cases are preparing for a ballooning docket this spring.

Law firms that represent lenders are forming special units to focus on the crisis. Law firm Mayer Brown LLP's offices in Chicago, the United Kingdom and Germany have formed a subprime lending response team to help clients address matters resulting from the foreclosure crisis. A spokeswoman for the firm declined to comment.

More problematic loans, adjustable rates and subprime, were written in 2006. That means they will reset in two to three years. So those homeowners likely will start having problems next year through 2009, Smith said.

"We're expecting the turmoil to continue," Smith said. "After that, it's unclear."

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