The Home Ownership Preservation Program (HOPP)
Main Issue
An unprecedented rise in the number of delinquent mortgages in the United States combined with a high probability of foreclosure and the prospect for a continued rise in foreclosures requires this issue be addressed with a program that will uniquely utilize current resources, as well as never before available resources. These never before available resources include those allocated under the US Treasury’s Troubled Assets Relief Program (TARP) and the potential for direct availability of mortgage loans that can be summoned through the financial institutions that have either been recently placed under US Government jurisdiction or ones that have received TARP equity injections.
Home ownership retention and the resulting stabilization of the housing market will be the primary focus of this White Paper, with an implicit consideration to balance the sacrifices required by all parties involved in this process. Straight forward simplicity and fairness to the Interested Parties will be the goal of The Home Ownership Preservation Program (HOPP).
Interested Parties
Generally, there are 4 major players involved and each one’s role in this policy directive will be outlined accordingly. They are:
1. The Home Owner that is delinquent on a mortgage for a primary residence to the point of inevitable foreclosure.
2. The Existing Mortgage Holder with a mortgage investment substantively in arrears.
3. The New Mortgage Holder, TARP Beneficiaries; the banks and other financial institutions that accepted monies under TARP, and other entities such as Fannie Mae/Freddie Mac that were recently placed under US Government jurisdiction.
4. The US Taxpayer.
Proposed Solution
Under this proposed solution, there will be no need to modify either the existing loan documentation or any loan servicing agreements, as any Home Owner that chooses to participate in HOPP will at closing be borrowing under a completely new mortgage facility that will have been established to pay off their former troubled mortgage. To qualify, the existing mortgagee must be at serious risk of default due to their inability to meet the repayment terms as previously contracted, with foreclosure imminent.
The general precept proposed here will be to have the Home Owner retain his primary residence and to have the Existing Mortgage Holder removed from the situation entirely. This will be accomplished with shared sacrifice by the Interested Parties and will result in an assurance to the New Mortgage Holder that future repayment is highly likely by the Home Owner on the refinanced facility. US Government support will be held to the barest minimum level necessary in order to facilitate the restructuring. At a future date the US Government will also have a better than average chance for repayment of any US Taxpayer’s monies that may have been placed at risk in order to jump start and maintain this program.
The key criteria in the determination of the amount of each Interested Party’s participation will be driven by the Home Owner’s capacity to service the new mortgage with no greater than 31% of gross income (as verified). This will drive, working backward, all the other criteria that will be specifically required to satisfy each individual Home Owner's requirements on a case by case basis as outlined below. The other most important determinant will be the verifiable market value of the Home Owner’s primary residence in relation to the amount of mortgage presently outstanding.
Program Description
Determination of the Home Owner’s New Mortgage Amount
As stated above the Home Owners new mortgage amount will be governed by a conservative 31% income to mortgage debt service ratio. This ratio as traditionally defined will take into account principal, interest, taxes and insurance as the numerator; with gross annual income as the denominator. For example, if the Home Owner’s gross annual income is $50,000 per year the maximum annual amount that will be allocated to support the new loan amount would be $15,500 ($50,000 x 31%) or $1,291.67 per month.
The Home Owner will be required (as allowed by law) to pledge additional collateral; either under a “full recourse” security and collateral agreement or through the endorsement of personal guarantee(s), to support borrowing under HOPP. This concession is important as it represents the initial sacrifice the Home Owner will make to take part in this program.
Determination of the Pay-off Amount Due to the Existing Mortgage Holder
The Existing Mortgage Holder will be expected to write-down the troubled mortgage by 50% of the amount outstanding above appraised market value of the Home Owner’s primary residence. There will be no future claim allowed by the Existing Mortgage Holder for this amount. The remaining balance due to the Existing Mortgage Holder will be paid in full upon the HOPP refinancing as outlined below. For example, if the current mortgage is $300,000 and the home is appraised at $250,000 then 50% of the amount in excess of 250,000 will be written off as a loss by the Existing Mortgage Holder. In this illustrative case the write-down will be $25,000. The remaining $275,000 principal balance of the existing mortgage due will be repaid at closing of the new HOPP loan facility. This write-down is a consequence of what some would say was a poor lending decision made to begin with and represents the sacrifice necessary to be taken by the Existing Mortgage Holder.
Determination of the Participation of New Mortgage Holder
The next step is to calculate the principal amount of the actual mortgage that a monthly payment of $1,291.67 will support. For illustrative purposes it is assumed that $129.17 per month (10%) will be required for taxes and insurance, leaving $1,162.50 for principal and interest (P+I).
It is at this point that the role of Fannie Mae/Freddie Mac and other mortgage providers that have either been placed under US Government jurisdiction or that have received TARP funds come into play as the New Mortgage Holders. With support of a 31% loan to gross income ratio and the participation of the US Taxpayers as outlined below; these financial institutions will be called upon to make new 30 year mortgages available at a fixed rate of 5.5% for the Home Owners that qualify and choose to participate in HOPP.
With 30 year mortgage rates at historically low levels there will be no need to provide any other options to the borrower beyond a traditional 30 year fixed rate mortgage at 5.5% with zero points. Again, for illustrative purposes; with a term of 30 years and interest rate of 5.5% and a monthly payment amount of $1,162.50 (above) the amount of a mortgage loan to be provided by the New Mortgage Holder will be $204,741.55.
Determination of US Taxpayer Contribution
Per the above illustration, there is a resulting funding gap of $70,258.45 between the $275,000 due to the Existing Mortgage Holder and the New Mortgage Holder’s loan of $204,741.55. Already allocated, but unused TARP funds will be utilized to support this $70,258.45 differential. TARP funds will also be used to pay any closing costs required to complete the refinancing.
There will be no interest due by the Home Owner on this US Taxpayer provided amount and repayment of it will be deferred until the date the primary residence is either sold or refinanced. The Home Owner will be expected to share any incremental profit calculated on pro-rata basis should the home be sold or refinanced for an amount greater than total HOPP consideration. In this case that amount would be a pro-rata sharing of any amounts realized above the $275,000 adjusted principal value (Exhibit 1).
The potential equity recapture and pro-rata profit sharing is an additional sacrifice on behalf of the Home Owner, which if realized; will be of direct benefit to the US Taxpayers.
There are no absolute assurances of repayment to the US Taxpayer. Repayment is likely given the $25,000 write-down taken by the Existing Mortgage Holder as well the fact that the properties will be refinanced at historical lows with a reasonable expectation that over time values will move back in line with levels already experienced.
As stated above, the US taxpayers will have a perpetual claim against available assets of the borrower (as allowed by law) and will be first in line to recoup the additional $70,258.45 proceeds as well as any closing costs advanced. These amounts are to be paid (in whole or in part) upon the sale or future refinancing of the Home Owner’s primary residence.
Special Note: HOPP Cap/Upper Limitation
The maximum US Taxpayer contribution will be 30% of the Total Funded Amount (TFA) of $275,000. If the Homeowners verified current income ratio (as outlined above at 31%) is determined to be insufficient to service at least 70% of the TFA; then the Homeowner will not qualify for a HOPP restructure.
Ancillary Benefit to the Mortgage Backed Security Industry
An additional benefit, due to the US Taxpayer equity injection and the required conservative loan to income ratio; is the prospect for pooling of these new mortgages as securities with a base of transparent collateral. These new securities could be structured to present risk characteristics similar to those previously experienced in the mortgage backed securities market during times of less volatility. With the support of HOPP loans as collateral, it is reasonable to expect that once a rating is set for a particular new mortgage backed security issue it will not likely need to be negatively modified for the term of the security. This would act as a starting point to stabilize the collateralized mortgage security market to a point where risk levels and corresponding pricing of the HOPP based securities and others will once again become predictable through the application of traditional valuation methods.
Conclusion
In addition to the primary stated goal of keeping Home Owners in their primary residence, HOPP facilitates the stabilization of housing prices by limiting the supply of homes entering the market as a result of foreclosure. Although it requires some level of sacrifice on behalf of the Interested Parties, those sacrifices are allocated evenly and fairly. HOPP also provides a reasonable opportunity for the US Taxpayer to recoup any advanced TARP funds upon a recovery in the housing market. An added benefit is the prospect for a pooling of HOPP mortgages whose risk will be transparent and easily analyzed by the Rating Agencies. Finally, as HOPP based Mortgage Backed Securities become available and housing market activity begins to increase the program may further help to motivate other potential buyers and sellers to re-enter the housing market as it begins to stabilize.
Basis for Calculations for HOPP Illustrative Refinancing
Existing mortgage amount: $300,000.
Current appraised value of property: $250,000 (estimated at 16.67% below amount of current mortgage due).
Existing mortgage Amount in excess of appraised value: $50,000.
Write-down of mortgage by Existing Mortgage Holder: $25,000 (50% of $50,000 excess above market value).
Adjusted amount of current mortgage to be paid off: $275,000 (TFA).
Home Owner new mortgage amount at a 31% loan to income ratio: $204,741.55 (calculated above and provided by TARP institutions/Fannie Mae and Freddie Mac).
Differential to be provided by allocated, but unused TARP funds: $70,258.45 (plus traditional closing costs as deemed necessary).
Exhibit 1
Calculation of Sharing Potential Pro-rata Gain
Original Value of Home Owner’s Primary residence: $325,000 (for illustrative purposes, this level is expected to be re-achieved during term of HOPP refinancing)
Gain over total HOPP consideration amount: $50,000=$325,000-$275,000(above)
Home Owner share of gain: $204,741.55(above)/$275,000=74.5%
US Taxpayer share of gain: $70,258.45(above)/$275,000=25.5%
Home Owner amount of gain: $37,225.74=$50,000x74.5%
US Taxpayer amount of gain: $12,774.26=$50,000x25.5%
