Local Experts Doubt Bailout Will Stem Foreclosure Crisis

UPDATE: The Senate passed their modified version of the $700 billion bailout package Wednesday night with 74 yea votes. The House is expected to consider the bill Friday.

Oct. 2, 2008 – As Congress ponders an economic bailout package, local housing experts say that, in its current form, the bill would have limited impact on the growing foreclosure crisis.

"I don't know if it would make a huge dent on foreclosures," said Geoff Smith, vice president of the Woodstock Institute. "It might have some impact."

"It's not the type of plan we would have proposed," he said. "It's a bailout that's geared toward Wall Street and if it helps homeowners, so much the better."

In the version voted down Monday, Congress added language allowing Treasury Secretary Henry Paulson to modify mortgages acquired in the course of the bailout. But buying up investments in mortgage-backed securities doesn't mean the government will hold the controlling portion needed to enable it to offer loan modifications.

"A key facet of this crisis is the incredible complexity of these instruments," and that means the government's "ability to modify loans may be limited," Smith said.

The language of the legislation left a great deal of discretion to Paulson, said Bob Palmer of Housing Action Illinois.

"If the idea is to stabilize markets, but homes continue to be foreclosed on, that's going to reduce the larger faith in markets as well," Palmer added.

A recent study by the Pew Charitable Trusts points out that 26 percent of all home loans made in 2005 and 2006 were subprime nationwide (29 percent in Illinois). The study projects that one in 33 homeowners will face foreclosure as a result of high-cost loans over the next two years, with 61 percent of homeowners expected to feel ripple effects of foreclosures, such as reduced home values.

In Illinois, the state and local tax base is expected to lose $27.3 billion as a result of foreclosures over the next two years, according to the study.

Woodstock has advocated a federal program to buy up and modify troubled mortgages, Smith said. He said the financial costs of the Paulson package, if enacted, would make such a program unlikely.

One cost-free proposal would allow bankruptcy courts to modify mortgages for primary residences, as they now can for property such as vacation homes and yachts. That would help homeowners who end up in bankruptcy and would create a strong incentive for loan services to modify mortgages, Smith said.

"At this point that would have the most impact," he said.

Smith said many modifications now being offered by mortgage services are short-term fixes, and not sustainable in the long term. Many of these are headed for trouble, he said.

"When this portion of the bankruptcy code was written, mortgages were the most stable kind of debt," he said. Lenders required big down payments and banks often held the loans instead of selling them off. But with incomes stagnating and the housing bubble encouraging homeowners to use home loans to cover expenses, "it's now the most insecure kind of debt."

However, he added that financial industry opposition to such a fix seems overwhelming.