Who Receives a Mortgage Modification? Race and Income Differentials in Loan Workouts

1. Who Receives a Mortgage Modification? Race and Income Differentials in Loan Workouts J. M. Collins*, C. K. Reid^ * Center for Financial Security, University of Wisconsin-Madison^Federal Reserve Bank of San Francisco West Coast Poverty Center Seminar January 24, 2011

2. Overview Homeownership boom and bust Remedies for Borrowers in Distress Policy Response: HAMP Concerns about Financial Literacy, Racial & Income Disparities Data Findings Future Research A bit of a commercial…

3. Boom and Bust Source: Case-Shiller Index

4. Foreclosures Spike Source: National Delinquency Survey

5. Distressed Sales Rising National Home Sales by Segment CoreLogic, formerly First American Corporation, www.corelogic.com

6. Remedies • Counseling: 888-HOPE & NFMC Program • In 2009, received 1.89 million calls and counseled more than 430,000 distressed homeowners • Averages 135,000 calls per month and 5,500 calls per day • Mediation (conciliation) • Out of court meeting with a neutral third party appointed by the court in an attempt to resolve a dispute. • 21 states have some form of foreclosure mediation • Loan modifications: permanently alter original loan contract • Lower interest rates, • Extending loan term, and/or • Reducing principal balance owed.

7. Federal Modification Initiative: HAMP • Home Affordable Mortgage Program - Federal subsidy • Goal: More lender/servicer modifications • Emphasis on ‘waterfall’ • Capitalization of arrearages (past payments and fees) • Move from ARM to FRM (frozen or reset mod) • Reduction in the interest rate (time limited) • Reduce principal (very rare) • Goal: bringing monthly payments to 31% of their income

8. Example

9. HAMP Goal: 3 Million Loans Slow to implement Many iterations: much confusion Long delays and overall volume trails projections Source: Office of the Comptroller of the Currency and the Office of Thrift Supervision Mortgage Metrics Report, Third Quarter 2010

10. Financial Literacy & Disparities • Opt-in mechanism: borrowers need to seek out potential solutions • Failure to take enroll in programs that require an opt-in (e.g. Heckman & Smith, 2004; Thaler & Sunstein, 2008) • Navigating process, advocacy with lenders • Persistence required • Lack of financial literacy and familiarity with the mortgage market (Agnew & Szykman, 2005; Bucks & Pence, 2008; Campbell, 2006) • Technical document reviews (legalese)

11. Borrower Communication • Cutts and Merrill (2008) find that 52 percent of foreclosure sales lack reciprocal lender contact • Lack of trust in institutions • Afraid of accelerating process • Inbound calls to servicer not always successful • Wrong call center / dept • Timelines • Borrower outbound communication is challenge • Lack internet, limited phone, time constrained

12. Research Questions Controlling for borrower risk factors, loan characteristics, and labor and housing market conditions, who loses a home to foreclosure? Among borrowers in distress, who gets a modification? For borrowers in distress, does a modification reduce the likelihood of a subsequent foreclosure? Does a modification result in a significant rewriting of the mortgage contract, such as a reduced interest rate and/or principal balance?

13. Data • Subprime loans made in 2005 in California, Oregon and Washington • Mortgage remittances for investors managed by Corporate Trust Services (CTS) of Wells Fargo Bank, N.A. • Only 15% are loans originated and serviced by Wells Fargo; CTS covers more than 100 lenders/servicers • Merged dataset: • Mortgage applications from public 2005 Home Mortgage Disclosure Act (HMDA) dataset. • Observe differences by income and race • Tracks the monthly performance of loans and the incidence of loan modifications • 105,769 observations observed for 39 months, from December 2006 through May 2010.

14. Descriptive Data

17. Models • Who loses a home to foreclosure? • competing risks (pre-pay, cure, reo) • Who gets a modification? • Restricted to those loans being 60+ days delinquent • survival analysis • Does a modification reduce the likelihood of a subsequent foreclosure? • Restricted to 60+ days delinquent • competing risks • Does a modification result in a significant rewriting of the mortgage contract? • Difference in difference

18. Models Reduced form specification : Non-Time Varying: High-Cost Loan(>300BPSIndicator), Log Loan Amount($), Combined Loan-to-Value, Payment:Income Ratio, Purchase Indicator, African American Indicator, Hispanic\Latino, Asian \Pacific Islander, Log Income($) Time Varying controls: ARM Indicator, FICO, FICO2, Housing Price Index(HPI), (HPI)6monthslag, MSA Unemployment, Loan Interest Rate, Months Delinquent, Months Delinquent 3 month lag, Months Delinquent 6 month lag, PMMS

22. Terms of Modifications: Rate Drops

23. Growing Balance

24. Findings Loan modifications are rarely used overall No evidence that minority borrowers are less likely to receive a modification or less aggressive modification than white borrowers. Most modifications involve reductions in the loan’s interest rate, and an increase in principal balance. Modifications reduce the likelihood of subsequent default

25. Q & A • Controlling for borrower risk factors, loan characteristics, and labor and housing market conditions, who loses a home to foreclosure? A. No evidence of income effects, loan terms matter, racial effects (Hisp/Latino & Asian/other) • Among borrowers in distress, who gets a modification? A. Modest income and racial effects (AfrAmer & Hisp/Latino); subprime • For borrowers in distress, does a modification reduce the likelihood of a subsequent foreclosure? A. Yes. • Does a modification result in a significant rewriting of the mortgage contract, such as a reduced interest rate (A. yes) and/or principal balance? (A. no – increases balance)

26. More questions • Standardized modification terms – removing discretion as a policy? • Type of servicer effects? (better and worse systems) • Role of counseling? • $475 million in NFMC funds • Effects of state mediation policies? • Heterogeneity of borrowers / periods – ongoing study

27. Counseling Effects Source: Collins & Schmeiser, 2010

28. Mediation Policies • Mediation (conciliation) • Out of court meeting with a neutral third party appointed by the court in an attempt to resolve a dispute. • If the parties to come to a resolution, foreclosure dismissed • 21 states have some form of foreclosure mediation • 13 statewide • 8 with county or court-district based

29. Mediation Effects?

30. Typology of Borrowers in Default • Income disruption • Job loss/cutback (relocation options) • Divorce (child support issues) • Widow/er (may have limited work options) • Disability • Chronic (DI application process) • Health crisis • Acute or ongoing expenses (medical debt management) • Investor (not all are speculators) • tenant eviction issues • subsidized units • Small business failure (non-real estate) • Sale / bankruptcy (special issues if farm) • Strategic defaulters

31. Policies for Homeowners in Distress • Prevention • People not in default, but worried • Early Intervention • Missed 1-2 payments • Late Intervention • Missed 3+ payments • Transitional Support • Short sale or foreclosure auction

32. Center for Financial Security • Financial Literacy Research Consortium of the Social Security Administration • Wisconsin, Rand, Boston College • FY 12 projects due late spring • Financial capacity building • Life course models (not just retirement) • Focus on vulnerable populations • Balance sheet approach (not just saving) • Counseling, education, advice, disclosures, reminders, etc.

33. J. Michael Collins Faculty Director, Center for Financial Security University of Wisconsin-Madison 7401 Social Science, 1180 Observatory Drive Madison, WI 53706 608-616-0369 jmcollins@wisc.edu For More Information: cfs.wisc.edu