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Stop the home foreclosure disaster

Lawyer Prentiss Cox knows a thing or two about predatory lending. He was the lead attorney in the successful multi-state action against major subprime lender Ameriquest Mortgage Corp. In an intriguing passage, journalists Joseph Nocera and Bethany McLean capture an early moment in the fight against subprime lenders in their book, All the Details Are Here: The Hidden History of the Financial Crisis:

From the early days of subprime lending, there was a small, lonely group who sided with the consumer advocates fighting subprime companies: the attorney general in a handful of states like Iowa, Minnesota, Washington and Illinois. They, too, had heard borrowers' complaints first hand, and saw the havoc that subprime lending was wreaking on communities. Some of them also understood that this wasn't just about the borrowers. "It's not in anyone's long-term interest for consumers to get loans they can't pay back," says Prentiss Cox , the former attorney with the Minnesota attorney general's office. "It's only in the short-term interest of those who are raking in fees." On a conference call with several other attorney generals in 2005, he said bluntly, "This whole thing is going to collapse."

Sad to say, as we know all too well, he was right. But dire warnings from consumer advocates and activist state attorney generals were ignored in Washington.

The former Assistant Attorney General and manager of the Consumer Enforcement Division in the Minnesota Attorney General's Office is now at the University of Minnesota Law School.

He's actively involved in various consumer protection laws, especially concerning the national foreclosure mess. There's much more to be done to stem the downward cycle of foreclosures.

Prentiss Cox: I was contacted recently by a confused homeowner wondering if an unsolicited letter he received was a scam. The letter was from his mortgage company and offered to reduce his interest rate at no cost. Surprisingly, the letter almost surely was legitimate. Several mortgage lenders have been picking out a few homeowners for this special treatment.

Is this latest development good news for the millions of homeowners experiencing mortgage distress? Not really. Unless, of course, you happen to be among the chosen few.

Lenders seem to be targeting "underwater" borrowers--those who owe more than the house is worth--with good credit who are facing rising interest rates from certain exotic mortgage products of the early 2000s. These offers of help are more or less arbitrary from the borrower's perspective. Whether you get an interest rate reduction depends on which company happens to service your loan and whether you meet the criteria to which only the company is privy.

Unfortunately, opaque and irregular help for borrowers is business-as-chaotic-usual for our residential real estate market. The U. S. still lacks a coherent national policy to address foreclosures.

In 2008 and 2009, the country spent about $2 trillion to stabilize the financial markets. Massive government intervention clearly was better than recreating the 1930s. Yet a bailout need not have been the grandest of welfare programs almost solely for the benefit of financial institutions. The federal government could have imposed a coherent loan modification program. Instead, homeowners trying to avoid foreclosure were given "HAMP"-- a tiny, voluntary program run by the mortgage industry. It had no clear rules, no transparency and absolutely no enforcement.

The result has been a cycle of decreasing home prices and rising foreclosures. Properties sold in distress lower home prices, which results in more foreclosures, which results in more distressed home sales, etc. The residential real estate collapse underlying the financial crisis continued unabated with the bailouts of financial institutions.

It actually could get worse. Destruction in home values is occurring at a time of record low interest rates. Imagine our current real estate market with mortgage lending at 10%?

It is still possible to stabilize our housing market. First, let's have the government support refinancing at today's low interest rates for underwater borrowers with sufficient income.

Then, let's finally require lenders to modify loans, and reduce principal if necessary, for distressed borrowers who qualify under a transparent formula.

Finally, allow homeowners to reduce principal in bankruptcy, such as is available for vacation homes, boats and just about every other asset worth less than the debt.

Before too many knees jerk at the mention of substantial government involvement, consider that this plan should not cost much in the way of government money. Federal backing for home refinancing means assumption of risk, but not short-term costs. Mandated loan modifications are a reasonable condition to impose on businesses that have operated in a market floating on government support. Bankruptcy reform just puts homes on equal footing with other property.

I'm happy for the homeowner who got the unsolicited interest rate reduction offer from his lender. It's great to see mortgage companies finally discover that loan modifications can be mutually beneficial. But random acts of lender self-interest are not a desperately needed national mortgage lending and foreclosure policy.

About the author

Chris Farrell is the economics editor of Marketplace Money.

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