Marketplace Scratch Pad

Loan mods don’t mean much

Scott Jagow May 26, 2009

One strategy to keep people in their homes is changing the terms of their loans. It isn’t working. The Wall Street Journal cites a Fitch report coming out later this week: 65% to 75% of modified subprime loans will redefault.

From the Journal:

The Fitch report said one reason for the high redefault rate was public pressure to modify loans even for borrowers who were likely to default whether the loan terms were changed or not. Fitch said another cause was falling home prices. Ultimately, these homeowners, deep underwater, walk away from the home, resulting in the redefault of a loan.

It’s a vicious cycle. More defaults means more foreclosures which means prices keep dropping, which means more defaults and more foreclosures. Plus, more people are losing their jobs or losing hours, and Fitch says that’s leading to redefaults as well.

I don’t know the answer. Some people argue that banks should decrease the principal on these loans, but a. banks don’t want to do that and b. Fitch’s report finds that 30-40% of principle-reduced loans are still redefaulting after a year.

The Administration believes that its loan modification plans will help, but these stats do not bode well for it. You have to wonder if this strategy is only delaying the inevitable. Maybe ripping off the band-aid and letting the market heal on its own would work better than trying to apply more band-aids.

The San Francisco Chronicle has a good breakdown of the key problems that may continue to drag down the housing market.

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